• Inheriting US Assets from a Foreign Decedent – New Law, New Form, New Headache

    By Virginia La Torre Jeker J.D.

    04-02-2016

    What is Tax "Basis" in Property? Why is it Important?

    The US tax laws addressing the so-called "basis" of property acquired from a decedent were revised in July 2015. These laws affect not only the basis of assets acquired by US heirs but will affect the basis of US property held by foreign decedents and passed on to their foreign heirs. As a general matter, when an heir acquires property from a decedent, the heir receives a "basis" in the property equal to its fair market value on the decedent's date of death (alternatively, the estate can possibly elect to have basis calculated on all of the estate's assets at the fair market value 6 months after death, the so-called "alternate valuation date").

    The basis of property is very important because when an heir sells the property later, the gain that will be subject to US tax is calculated (broadly speaking) by subtracting the "basis" from the sales price. If property owned by a decedent at death has been held for many years, it is likely that the property has appreciated in value. Allowing the heir to take a basis "stepped up" to the fair market value at the date of death is advantageous to the heir. The appreciation that has grown prior to death escapes US capital gains tax.

    Let's take an example: Decedent purchased Yellow Acre in 1978 at a cost of $78,000. Decedent passed away in 2015 when Yellow Acre had a fair market value of $178,000. Son, the heir, takes a basis in Yellow Acre of $178,000. Son sells the property 3 months later at a price of $178,000. Son pays no tax. The $100,000 appreciation in Yellow Acre escapes all US tax.

    New "Consistency-in-Basis" Laws

    New laws were enacted and made part of the US Internal Revenue Code to ensure there is conformity and consistency in the basis of assets inherited by heirs of an estate with the value of those assets as reported for US estate tax purposes. Here's a bird's eye view of the new rules:

    Under new Section 1014(f)(1) of the Internal Revenue Code, basis adjustment on property acquired from a decedent cannot exceed the final value of the property as determined for federal estate tax purposes. Basically what this means is that the value of an asset as listed on the Estate tax return and on which the Estate tax is calculated must be the "basis" of the asset used by the heir who inherits that asset.

    Furthermore, under new Section 6035 of the Internal Revenue Code, an "executor" of an estate who is required to file an estate tax return must provide a certain statement to the Internal Revenue Service (IRS) and to each beneficiary of the estate. The statement must list the value of each interest in property received by the beneficiary as reported on the estate tax return. Thus, since both the IRS and the heir get this statement, each is advised of the "basis" information. This means for example, that the IRS can always cross-check at a later time when the asset is sold by the heir to make sure the heir has not used another higher value as the basis. Big Brother is indeed watching!

    Section 6035(a)(3) mandates that the statement must be provided to the estate beneficiary within a certain time frame. The law requires it be provided no later than the earlier of (i) 30 days after the due date of the estate tax return, or, (ii) 30 days after the date the estate tax return is filed.

    Other new provisions of the Internal Revenue Code were enacted to ensure compliance with these "consistency" in basis rules. Code Section 6724(d)(1)(D) implies a failure to file penalty will be assessed on an executor who neglects to file the required statement, and new Section 6662(b)(8) imposes a 20% accuracy-related penalty on a beneficiary who later overstates the basis of property received from the decedent. Big Brother has ways to make you comply!

    Form 8971

    The statement described in Section 6035 will take shape in IRS Form 8971. The IRS recently issued Form 8971 in draft form which can be accessed here. Since the form is not yet final, it cannot be used by executors until the IRS has undertaken a complete review of public comments and suggestions relating to the form and issues its final version.

    Estate Tax Returns for Non-US Persons

    It is easy to forget that estates of non-US persons (i.e., non-US citizens who are not "domiciled" in the US) must file a US estate tax return on IRS Form 706-NA if the taxable estate which is comprised of US-situs assets (such as US real property, tangible assets in the US, cash in US brokerage firm accounts, or US stocks) exceeds USD 60,000. This is a very small sum and any foreigner owning US real estate will likely exceed that value very easily!

    Estates of non-US persons owning US assets are also affected by the new basis reporting provisions. Executors of such estates now have another headache to handle filing of Form 8971 with the IRS and any beneficiary receiving a US asset. The beneficiary (whether or not a US person) must keep careful track of the basis records so he will know what to do later when he disposes of the asset and must report the capital gain on a US tax return.

    Estate tax returns are to be filed within 9 months of death but one can request a 6 month extension within the first 9 months. The extension request is made by filing Form 4768. Penalties and interest can be applied to late filed returns unless one can demonstrate "reasonable cause". You can learn more about the US Estate tax rules and how they apply to non-US persons at my blog post here.

    Don't ignore the estate tax rules. Remember the IRS may collect any unpaid estate tax from any person receiving a distribution of the decedent's property under so-called "transferee liability" provisions of the US tax code.

    IRS Notice 2015-57

    In connection with the timing requirements for the statements regarding basis mandated by Section 6035, the IRS has issued Notice 2015-57. This Notice provides that, for any statements due to be filed after July 31, 2015 but before February 29, 2016, the timing is delayed until February 29, 2016. Thus no statement needs to be filed with the IRS or furnished to the relevant estate beneficiaries until that date. This delay is to allow the Treasury Department and IRS to issue guidance implementing the reporting requirements of section 6035. Executors and other persons required to file or furnish a statement under section 6035(a)(1) or (a)(2) should not do so until the issuance of forms or further guidance by the Treasury Department and the IRS addressing the requirements of section 6035.

    The American Institute of Certified Public Accountants (AICPA) has submitted comments to the IRS regarding the draft Form 8971. You can read a summary of the AICPA's comments and suggestions to the IRS here.

    US Recipients of Bequests from Foreign Estates

    Finally, US recipients of bequests from foreign estates may have special reporting duties. See my blog post here.

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  • The information provided in this article is for general information purposes only. The information is not intended to be comprehensive or to include advice on which you may rely. You should always consult a suitably qualified professional on any specific matter.

Virginia La Torre Jeker J.D.

Virginia La Torre Jeker J.D., is based in Dubai. Virginia has been a member of the New York Bar since 1984 and is also admitted to practice before the United States Tax Court. She has over 30 years of experience specializing in the international aspects of US tax, including FATCA. She has been quoted in the New York Times and Newsweek, and is regularly quoted in many local news articles and publications."

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