IRS Issues Guidance on Carryover Basis Rules for 2010 Decedents' Estates

In early August, the IRS issued guidance on the time and manner for making the election not to have estate tax apply to estates of decedents who died in 2010 (Notice 2011-66). The election must be made by Nov. 15, 2011. The notice also discusses how donors can elect out of automatic allocation of the generation-skipping transfer (GST) tax exemption for direct skips in 2010 and clarifies when 2010 GST tax returns are due.

The IRS also provided details on how executors who elect not to have estate tax apply can allocate increase in basis to the decedents’ assets (Revenue Procedure 2011-41).

The Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (PL 111-312) reinstated the estate tax for 2010 after it had been repealed under the provisions of the Economic Growth and Tax Relief Reconciliation Act of 2001 (PL 107-16). However, the Tax Relief Act allows executors of the estates of decedents who died in 2010 to elect to apply the Code as if the estate tax had not been reinstated. Under this election, no estate tax would be due, but assets in the estate do not receive a step-up in basis to fair market value (FMV) at the date of death (or alternate valuation date). Instead, heirs’ basis in assets they inherit is determined under the modified carryover basis rules in IRC § 1022. Under these rules, an asset’s basis is the lesser of the decedent’s adjusted basis in the asset or its FMV at the date of death; however, the executor can allocate up to $1.3 million (plus the amount of the decedent’s unused capital loss carryovers, net operating loss carryovers and built-in losses) to increase certain assets’ basis to their FMV at death (basis increase) (see “Estate Tax or Carryover Basis?JofA, July 2011, page 28). An additional $3 million basis increase can be applied to property that passes to a surviving spouse.

Executors can elect to have the provisions of section 1022 apply by filing Form 8939, Allocation of Increase in Basis for Property Acquired From a Decedent, on or before Nov. 15, 2011. The IRS will not grant extensions of time to file Form 8939 and will not accept late-filed forms, except in certain narrowly defined circumstances. The IRS said in a news release (IR-2011-83) that it planned to release a final version of Form 8939 by early fall 2011.

The notice explains that executors must allocate the basis increase on Form 8939. The executor must report on Form 8939 all property acquired from the decedent (except cash and rights to receive income in respect of a decedent (IRD)). The executor must also provide a statement to each recipient of property reported on Form 8939, within 30 days of filing Form 8939, setting forth information required under section 6018(e).

Revenue Procedure 2011-41 explains in detail how the allocation of the basis increase works and to which assets it applies. It also discusses how to determine fair market value, gives special rules for community property states and explains the interaction of section 1022 with other tax provisions.

If the executor of the estate of a decedent who died in 2010 makes the section 1022 election, the executor will allocate the decedent’s available GST exemption by filing Schedule R with Form 8939. The notice provides two ways for the donor to elect out of the automatic allocation of the GST exemption to outright gifts to grandchildren or more remote descendants made in 2010.

The due date for filing a return reporting a direct skip, taxable distribution or taxable termination that occurred during 2010 (before Dec. 17, 2010) was Sept. 19, 2011, except in the case of Form 8939, Schedule R, which is due Nov. 15, 2011.

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