Will Property in Trust Receive Step-Up Upon Beneficiary’s Death?
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Question:
My brother’s inheritance is in trust. It includes a 50% interest in my parent’s home that he lives in and a stock/bond portfolio from which he gets monthly distributions. The remainder beneficiaries of the trust are my two daughters. When my brother passes will my daughters receive a step up in basis for the house and investments?
Response:
No. In order for property in trust to receive a step-up in basis upon an individual’s death, it must be in their taxable estate. (This does not mean it’s taxed since, on the federal level, the threshold for taxation is now $13.6 million.) Property in trust is usually included in the estate of the person who created the trust, the “grantor” or “donor,” but not in the estate of beneficiaries. So, the house and the home were almost certainly in your parents’ estates and received a step-up in basis when the second of them passed away, and almost certainly will not be includible in your brother’s estate.
For those readers who are unaware of what a “step-up”in basis is, it has to do with capital gains. Capital gains are the difference between what is received on property that is sold — usually stocks and real estate, but also artwork and furniture — and the property’s basis. The basis starts as the purchase price of the property. However, when property is inherited its basis is adjusted, or “stepped up,” to its value on the date of death of the decedent. So, for instance, if a house was purchased for $250,00 and its value was $500,000 on the date of death of the purchaser, that would be its new basis. And if it were sold for this amount, there would be no capital gain.
But your brother’s situation is a bit different since he is not the owner of the property. If it were sold for $500,000 there would still be no capital gain. But if the property’s value grew to $750,000 at his death and then your daughters sold it, they would have to pay taxes on capital gain of $250,000.
There are some exceptions to these rules. For instance, if your parents’ trust was irrevocable and they retained no control over it, such as the right to amend it, or benefit, such as the right to receive income, then it would have been a completed gift upon its creation and not have received a step-up upon their deaths. In a mirror image of these rules, if your brother has control of the trust assets, such as the right to withdraw them at will, then they would be includible in his estate and receive a step-up in basis upon his death.
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