When a person receives a property as a gift, it’s wise to remember that there are tax consequences if the property is sold. In the event of a sale, a taxpayer must calculate “basis” in the property as a baseline for determining overall gain or loss. While basis is the purchase price in most property transactions, special rules apply when property is received as a gift.
To figure out the basis of gifted property, a taxpayer must know the following three amounts:
- The property’s adjusted cost basis to the donor, just before the donor made the gift.
- The fair market value of the property at the time the donor made the gift.
- The amount of gift tax the donor paid on IRS Form 709 (United States Gift Tax Return).
In regard to adjusted cost basis, the general rule is “carryover basis,” meaning that a recipient of donated property receives the same basis as the donor had just before the time of transaction. An example would be if the donor buys stock for $1,000 and gives it to the donee when it is worth $5,000; later donee sells it for $10,000; the gain on sale would be $9,000 because the donee’s basis is only the $1,000 not the $5,000.
If the fair market value of property has declined at the time a gift is made, the donor’s basis will be higher than the value of the property. Under this circumstance, a taxpayer needs to consider both the adjusted cost and fair market value for basis purposes. So, if a taxpayer has a gain on later sale of the property, the carryover rule applies, and the basis is the same as donor had. On the other hand, if a taxpayer has a loss on later sale, the basis is limited to the lower value of the property at the time of the gift. An example would be if donor buys stock for $12,000 and gives it to the donee when it’s worth $8,000; later donee sells it for $6,000; the loss would be $2,000 because the basis you would use is the $8,000 not the cost of $12,000 because the loss of property rules.
A final consideration when determining basis is whether the donor paid gift taxes. If the value of the property is more than $14,000 (the permitted annual exclusion for 2017), the donor may have incurred federal gift taxes. If true, and if the property had appreciated in value while in the donor’s possession, a taxpayer can increase the basis by adding the amount of gift tax that can be allocated to the increase in value at the gift date. An example would be donor buys stock for $50,000 and gives it to donee when its value is $150,000; the donor pays $30,000 in federal gift tax on the transfer; the increase in value ($100,000) is two-thirds of the value of the gift; the done will increase their basis in the stock by $20,000 (two-thirds of the $30,000 in gift tax paid); donee total basis is $70,000 which is the $50,000 carryover basis plus the $20,000 under the gift tax rule.
Please contact us for more information on the special rules that apply when property is received as a gift.
May 17, 2017