Estate basis consistency and reporting: What practitioners need to know
In the juggling act that CPAs already perform in preparing estate tax returns and/or income tax returns of estate beneficiaries, Congress has thrown another ball to keep in the air—the new consistency and reporting requirements for basis of property acquired from a decedent. At first glance, the requirements might seem limited in their application, but what might not be immediately apparent are difficulties in completing reporting statements for estates that are affected and the costliness of a misstep. Therefore, it behooves CPAs, especially those with high–wealth clients, to be familiar with the new law and its ramifications.
THE OBLIGATION OF BASIS CONSISTENCY
Section 2004 of the Surface Transportation and Veterans Health Care Choice Improvement Act of 2015, P.L. 114–41, headed “Consistent Basis Reporting Between Estate and Person Acquiring Property From Decedent,” was enacted on July 31, 2015, as one of the Transportation Act’s several revenue provisions. (The Joint Committee on Taxation estimates in Rep’t No. JCX–105–15 that it will generate $1.54 billion over the next 10 years.) The act added Sec. 1014(f) and new Sec. 6035 to the Code, providing the consistency requirement and a related reporting requirement, respectively.
The requirements became effective for estate tax returns filed after the date of enactment; however, Notices 2015–57, 2016–19, and 2016–27 successively extended until June 30, 2016, the deadline for filing required reporting statements with the IRS and furnishing them to persons acquiring property from a decedent whose estate tax return was filed after July 31, 2015, to give executors and other interested parties a chance to review proposed “reliance” regulations, which were issued on March 4, 2016 (REG–127923–15).
Sec. 1014(a) lays down the general rule that the basis of property in the hands of a person inheriting or acquiring that property from a decedent (hereinafter “inheritor” or “beneficiary”) and held by that person after the decedent’s death is its fair market value (FMV) on the date of the decedent’s death. Sec. 2031 defines the value of a decedent’s gross estate for purposes of estate tax as the value at the time of the decedent’s death of all the decedent’s property. Sec. 2032 provides an election by which the value of a decedent’s gross estate may instead be determined by reference to an alternate valuation date within six months after the decedent’s death. Regs. Sec. 1.1014–3(a) provides that the FMV of the property at the date of the decedent’s death or the alternate valuation date is deemed to be its value on these dates as appraised for estate tax purposes.
Therefore, disregarding the elections applicable to certain real property used in farming or other trades or businesses (Sec. 2032A) and qualified conservation easements (Sec. 2031(c)), the Sec. 1014(a) general rule means that the valuation of property for estate tax purposes and its initial basis in the hands of an inheritor or acquirer should generally be the same, since they are both determined by FMV on the date of death (or alternate valuation date). However, for property not subject to the new law, except where the inheritor is estopped from claiming otherwise by his or her previous actions or statements, there is only a rebuttable presumption that the initial basis of property in the hands of the inheritor is the value of the property for estate tax purposes (see Rev. Rul. 54–97 and Technical Advice Memorandum 199933001).
APPLICABILITY OF THE NEW CONSISTENCY REQUIREMENT
New Sec. 1014(f)(1) provides that the basis of any property to which Sec. 1014(a) applies may not exceed its final value as determined for estate tax purposes. Where no final value for estate tax purposes has been determined, the basis is the property’s value as identified on a statement furnished under new Sec. 6035(a), if such a statement has been furnished. In both cases, however, the requirement applies only to “any property whose inclusion in the decedent’s estate increased the liability for the [estate tax] … (reduced by credits allowable against such tax) on such estate” (Sec. 1014(f)(2)).
Thus, estates to which the requirement applies are not ubiquitous. According to IRS statistics, of the 11,931 estate tax returns filed in 2014 (the most recent year available), only 5,158, or 43%, were taxable (IRS Statistics of Income, Table 1, Estate Tax Returns Filed in 2014, available at irs.gov. (By comparison, there were nearly 2.6 million deaths in the United States in 2013, the most recent year for which that statistic is available from the Centers for Disease Control and Prevention.)
The value of property has been finally determined for estate tax purposes under Sec. 1014(f)(3) and Prop. Regs. Sec. 1.1014–10(c)(1):
Note that more than one “time for assessing a tax under chapter 11” could apply: (1) the general period of three years from the filing date of a return under Sec. 6501(a); or (2) the extended six–year period under Sec. 6501(e)(2) where there is an omission of 25% or more of the gross estate stated in the return.
If no final value of property has been determined under Prop. Regs. Sec. 1.1014–10(c)(1), a recipient of that property must use the basis reported on the information statement provided to beneficiaries under Sec. 6035 as described below. Then, if the final value subsequently determined differs from the information statement value, the taxpayer may not rely on the information statement value, and the taxpayer may have a deficiency and underpayment resulting from the difference between the information statement value and the final value determined under Prop. Regs. Sec. 1.1014–10(c)(1) (see Prop. Regs. Sec. 1.1014–10(c)(2), “No Finality of Estate Tax Value”).
Hazard alert: Zero basis for omitted property
However, under Prop. Regs. Sec. 1.1014–10(c)(3), if property required to be included on an estate tax return is omitted from the return, or an estate tax return was required to have been filed reporting it but was not, the property’s basis in the hands of the inheritor may be zero. More on this appears below.
Property that increases estate tax liability
As mentioned above, the new consistency requirement applies only to property the inclusion of which in the taxable estate increases estate tax liability after applicable credits. Prop. Regs. Sec. 1.1014–10(b)(2) excludes under this rubric property that qualifies for a charitable deduction under Sec. 2055 or a marital deduction under Sec. 2056 (bequests, etc., to surviving spouse) or Sec. 2056A (qualified domestic trust). The proposed regulations also deem tangible personal property for which an appraisal is not required under Regs. Sec. 20.2031–6(b) to not generate an estate tax liability for this purpose (see the sidebar, “(Minimal) Household and Personal Effects Excluded”). If there is any estate tax liability, all other property is considered to increase estate tax liability and is subject to the new consistency requirement.
INFORMATION RETURNS AND STATEMENTS
The Transportation Act also introduced a new basis reporting requirement for property where an estate return is required.
Preexisting law requires the filing of an estate tax return by the executor of the estate of every U.S. citizen or resident decedent whose gross estate exceeds the applicable Sec. 2010(c)(2)(A) basic exclusion amount ($5,450,000 for decedents dying in 2016) or $60,000, in the case of a nonresident’s gross estate or portion that is situated in the United States (Sec. 6018(a)). Where an executor is unable to make a complete return, the duty may devolve to an estate beneficiary (Sec. 6018(b)).
New Sec. 6035 establishes that every executor or beneficiary required to file an estate tax return under Sec. 6018 must provide a statement to the IRS and every person acquiring an interest in property included in the gross estate for estate tax purposes. Consistent with Sec. 1014, no statement is required where an estate return is filed but not required under Sec. 6018, such as to elect spousal portability of an unused gift/estate exclusion amount, to make a generation–skipping transfer tax exemption allocation or election, or “protective” returns filed solely as “insurance” against a later–discovered filing requirement (at least until that discovery is made) (Prop. Regs. Sec. 1.6035–1(a)(2)). The statement must identify the value of each interest in property reported on the estate tax return. The statement, or information return, to be provided to the IRS is Form 8971, Information Regarding Beneficiaries Acquiring Property From a Decedent, and the statement furnished to beneficiaries is the form’s Schedule A. The executor must furnish a separate Schedule A to each beneficiary that lists property passing to that beneficiary and attach copies of all Schedules A with the Form 8971 filed with the IRS.
Time for furnishing statements
Under Sec. 6035(a)(3), Form 8971 and Schedules A must be filed with the IRS and furnished to beneficiaries no later than 30 days after the filing deadline for the estate tax return, including extensions, or, if earlier, 30 days after the return is filed. The general due date for an estate tax return is nine months after the date of death (Sec. 6075(a)), with an automatic six–month extension available. According to Prop. Regs. Sec. 1.6035–1(a), the value to be reported for each property interest is the final value specified in Prop. Regs. Sec. 1.1014–10(c). Note that, as discussed above, “final value” generally is determined later—perhaps after the statute of limitation on the estate return has run—in any case, long after the statement is due. Perhaps the final regulations will address this apparent anomaly.
Property exempt from reporting
Notably, although property that does not increase the estate’s estate tax liability is exempt from the consistency requirement, it remains in most cases subject to reporting (if an estate tax return is required). Prop. Regs. Sec. 1.6035–1(b)(1) includes in the reporting requirement as a general rule “all property reported or required to be reported on a return under section 6018” as well as any new property the basis of which is determined by reference to property reported on the estate return, such as in like–kind exchanges or involuntary conversions. Schedule A of Form 8971 contains a column for indicating whether the property increased the estate tax liability.
However, specifically exempted from reporting are cash (other than coin collections or other currency with numismatic value), income in respect of a decedent, and tangible personal property for which an appraisal is not required (as under the Sec. 1014 proposed regulations; see the sidebar, “(Minimal) Household and Personal Effects Excluded”). Also exempted is any property that the estate sells, exchanges, or otherwise disposes of (other than to a beneficiary) where capital gain or loss is recognized.
Sec. 6035 and Prop. Regs. Sec. 1.6035–1 also provide requirements and rules for supplemental Form 8971 returns and statements. Prop. Regs. Sec. 1.6035–1(e)(2) requires supplemental returns and statements to adjust information previously reported, to reflect any change to that information that causes it to be incorrect or incomplete, including “a change in the value of property pursuant to an examination or litigation.”
The duty to file supplemental returns and statements is broad (and, as described below, can attach even to beneficiaries in certain instances). It encompasses not only revisions of the value of estate property before and when that value becomes final but also changes in beneficiaries and their information.
Under Prop. Regs. Sec. 1.6035–1(c)(3), if by the due date for the initial information return and statements, the executor cannot determine which of one or more persons is the beneficiary of particular estate property, the executor must report on that information return or those beneficiaries’ statements all property that could be used to satisfy the interest or interests. Then, once the actual property distributions and beneficiaries are matched up, the executor may under Prop. Regs. Sec. 1.6035–1(e)(3)(B) file and furnish a revised information return and statements but is not required to do so.
Robert S. Keebler, CPA/PFS, a partner with Keebler & Associates, pointed out in an AICPA webcast on March 24 (see AICPA Resources at the end of this article for the archived webcast) that issuing these “blanket” Schedules A identifying a range of property that could be distributed to one or more beneficiaries may be necessitated by a variety of types of bequests but could also be fraught with legal and other unintended hazards of disclosing more information to beneficiaries than state laws require or prudence indicates.
Corrections of inconsequential errors and omissions also may be, but are not required to be, reported in a supplemental return and statement. “Inconsequential errors and omissions” here are defined by reference to Regs. Sec. 301.6722–1(b) as those that cannot reasonably be expected to prevent or hinder the payee from timely receiving correct information and reporting it on his or her return or from otherwise putting the statement to its intended use. Regs. Sec. 301.6722–1(b) specifies that errors or omissions in any dollar amount are always consequential, as well as “significant items” in a payee’s (read beneficiary’s) address, which is required on Form 8971. The form also requires each beneficiary’s tax identification number (TIN). In addition, Prop. Regs. Sec. 1.6035–1(e)(2) provides the following examples of changes that are not inconsequential and require supplement:
The due date for a supplemental Form 8971 and Schedules A correcting information that is incorrect or incomplete is 30 days after the executor discovers that the information previously reported is otherwise incorrect or incomplete. Also, supplemental reporting is required within 30 days after the final value has been determined within the meaning of Prop. Regs. Sec. 1.1014–10(c)(1). Presumably, that does not include a final value that is unchanged from the value most recently reported, since this would not seem to be an “adjustment” under Sec. 6035(a)(3)(B), but this could be made clearer. If a supplemental estate tax return is filed reporting property not previously reported on an estate tax return, the executor similarly has 30 days from the filing date of the supplemental estate tax return to file a supplemental Form 8971 and Schedules A reporting the new property.
Time out in probate
While property is held in a probate estate or revocable trust—probably for a considerable period in most cases—the due date for any required supplemental return and statement is measured not from the preceding events but rather is 30 days after the property is distributed to the beneficiary (Prop. Regs. Sec. 1.6035–1(e)(4)(ii)). In that case, the executor may indicate on the Schedule A (separately from the property’s final value) any adjustments in basis that occurred in the interim between the date of death and the date of distribution.
An additional reporting requirement attaches in cases where a recipient of property that was previously reported or required to be reported on an information return (and on the recipient’s statement or supplemental statement) then distributes or otherwise transfers (including by gift) that property in a transaction with a related transferee, and the related tranferee’s basis is determined wholly or partly by reference to the recipient/transferor’s basis. The recipient/transferor must file a supplemental statement with the IRS and furnish a copy of the supplemental statement no later than 30 days from the transfer by the recipient/transferor. Keebler noted in the webcast that decades could intervene between the original and subsequent transfers.
Penalties for failure to file
The Sec. 6721 and Sec. 6722 penalties apply, respectively, for failure to file Form 8971 and furnish Schedules A. Generally, the penalties are $250 per return (as adjusted for inflation) or statement, up to an aggregate $3 million per calendar year (as adjusted for inflation), reduced by corrections of the failure within certain periods and with waivers due to reasonable cause. The penalties are higher in cases of intentional disregard, and the aggregate limitation does not apply.
A FINAL WORD ON FINAL VALUE
Estate property’s final value obviously has not been determined where the property is unknown to the IRS, either through its omission, when required, from an estate tax return or through a failure to file a required estate tax return. Accordingly, as mentioned above, Prop. Regs. Sec. 1.1014–10(c)(3) prescribes in such cases that the final value of property that is not reported is zero. For a never–filed estate tax return (for which there is no statute of limitation), there is a potential remedy (albeit perhaps a contentious one between the estate and inheritors): File the return. Similarly, for omitted property, the remedy (again, possibly contentious) is to file a supplemental estate tax return including the property. However, this latter expedient is possible only within the assessment limitation period for the estate return. After that, the beneficiary of such “after–discovered or omitted property” is out of luck.
Prop. Regs. Sec. 1.1014–10(e), Example (3), illustrates the unhappy result: “[A]fter the expiration of the period for assessing the tax imposed by chapter 11, the executor discovers property that had not been reported on the return required by section 6018(a) but which, if reported, would have generated additional chapter 11 tax on the entire value of the newly discovered property. … [T]he final value of the additional unreported property is zero.”
This may prompt advisers to weigh the risks of there being after–discovered property and, especially for estates approaching the basic exclusion amount, be more prone to file a protective estate return, Keebler noted in the webcast.
THE VIRTUE OF CONSISTENCY
The outlines of the new consistency and reporting requirements are by now a little clearer, but even after the proposed regulations are finalized and perhaps modified in response to comments, many opportunities for perplexing interplays of estate tax reporting and gain or loss on disposition of property acquired from a decedent will no doubt crop up. These in turn will translate into opportunities for CPAs to serve clients by offering insight and timely advice. Clients who inherit property will need to be advised on the need to compute basis of the property consistently with its reported initial basis. Executors will undoubtedly need more support in meeting these additional responsibilities, particularly in managing their new information–reporting duties at the potential peril of failure–to–file penalties. They may also need assistance in securing all beneficiaries’ addresses and TINs.
The latter may be particularly problematic with respect to foreign beneficiaries, David Kirk, CPA/PFS, executive director of the National Tax Department at EY, noted in the webcast mentioned above. The estate return will need to be matched against Forms 8971 and Schedules A—probably repeatedly, through what could be a succession of supplemental forms. And while not every practitioner will be laboring on behalf of the relatively wealthy estates subject to the new requirements, most will at some time and some level advise on or prepare tax returns involving the disposition of inherited property for which basis is determinable under similar principles.
(Minimal) household and personal effects excluded
Besides property qualifying for a charitable or marital deduction from a decedent’s gross estate, under proposed regulations, certain household and personal-effects property described in Regs. Sec. 20.2031-6(b) is also excluded from the new consistency requirement.
Under rules for valuation of household and personal effects included in the gross estate, Regs. Sec. 20.2031-6(a) allows the executor, in lieu of an itemized list of such items and their separate values, to make a written statement under penalties of perjury providing their aggregate value as appraised by a competent appraiser or appraisers of recognized standing and ability, or by a dealer or dealers in the class of items involved.
A special rule, however, under Regs. Sec. 20.2031-6(b) requires an appraisal by a qualified and disinterested expert or experts, under oath, of household and personal effects having “marked or intrinsic value” totaling more than $3,000 (with examples of jewelry, furs, silverware, paintings, etchings, engravings, antiques, books, statuary, vases, oriental rugs, or coin or stamp collections). Due to this low threshold (not updated since 1958), the tangible personal property exception in Prop. Regs. Sec. 1.1014-10(b)(2), if adopted as final, would appear to provide in most cases a negligible exemption from the new consistency requirement, if any.
About the author
Paul Bonner is a JofA senior editor. To comment on this article or to suggest an idea for another article, contact him at firstname.lastname@example.org or 919-402-4434.
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