The 9 Benefits of Investing in Real Estate: 9. Step up in cost basis to heirs at time of death or Defer, defer, die
Speaking of a lifetime, the death rate is still one per person and we are all going to make it. When it comes to taxes, real estate, and death, there is some good news for your heirs if you have properly planned. One of the benefits of doing like-kind exchanges, as well as other things related to real estate that defer taxes during your lifetime, is that real estate has a powerful wealth-building advantage when received by your heirs at the time of death. Heirs currently receive a step up in asset basis, based on the asset’s value at the time of passing, not at the time purchased. Generally speaking, avoid transferring real estate assets to heirs that have been greatly appreciated. My thesis for taxation is to defer, defer, and then die – allowing heirs to take possession on a stepped-up basis for tax purposes.
For example, if you acquired something for $400,000 that is now worth $1M, then you will have a $600,000 capital gain (this is oversimplified here to communicate the point). If you transferred the asset to an heir before passing, then the heir has your $400,000 basis and will have to pay the capital gains, should they ever sell on the $600,000 gain in this example. However, if your heirs receive the property at your passing, then they would inherit the property at the value of the property at the time of the decedent’s death. In other words, heirs would receive the property with a $1M basis (not the original cost or basis of $400,000) and could then sell it at $1M and not pay capital gains tax. I have heard people tell me how parents and grandparents have transferred property to children and kids or put their name on the title and not realize what they’re doing. The IRS does NOT incentivize this type of behavior. By transferring property to heirs before passing, you are allowing the IRS to penalize your heirs. Adopt the defer, defer, die thesis into part of your planning and exit strategy out of this life.
