“My uncle died a few months ago and left me some stock he purchased in the 1970’s. I’d like to sell some of it, but I am worried about taxes. If I sell it, will I be taxed on the increase in value since he bought it, or on the gains since he passed away?”
Simply put, stock is not a “normal” asset; its tax treatment can get pretty far from normal too. If you’ve just inherited stock or if you’re set to leave behind stock to your heirs, then it is well worth your time to get an idea just how far from normal this tax treatment can get AND what it can mean in the context of your overall estate plan.
There a volume to read on the topic of inherited stock, but thankfully Kiplinger posted a handy little note and Q&A on the topic last month with “The Tax Hit on Inherited Stock.” Essentially, stock is a partial ownership of something greater (a company). The value of the stock is based on the company, which in turn is based on market, which is based on when you buy and sell, how long you’ve owned the stock and/or who held the stock at each juncture. In other words, there are more than a few variables in play; these variables are what can make a serious tax headache.
The tax code settles this complexity with a simple(r) equation of sale less basis equals taxable amount. “Basis” is the value during the point at which the present owner acquired the stock, which is the operative concept in an inheritance. Stock basis will be measured at the juncture that it is inherited. Let’s unpack that: a parent buys stock in 1990 and then leaves it to their heirs in 2014. While owned by the parents in the intervening 24 years, the stock jumps from $500 to $30,000. Thereafter (in 2014), the heirs inherit the stock, only measuring their taxable amount (sale less basis) on that $30,000 high point of 24 years of appreciation. Accordingly, a sale by the heirs down the line at $32,000 means that only that last $2,000 is taxable.
Again, there is much more to be said. Not all stock or stock taxation is so easy as that example was. Furthermore, since not everyone inherits stock by bequest, the tax rules can change. The big picture here is that when thinking about protecting an inheritance from taxation it is not just the estate tax or the gift tax that you have to worry about, and it’s not just the settlor of the estate who pays the taxes. Set up your assets inefficiently and your heirs can get stuck with a tax bill you didn’t think about. So think about your stocks, think about the capital gains tax, and, more importantly, plan for them both appropriately.
Reference: Kiplinger (May 1, 2014) “The Tax Hit on Inherited Stock”
Image Credit: By From collection of JMWinkworth [Public domain], via Wikimedia Commons