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Transfer on death deed places property in estate

ALBUQUERQUE, N.M. — Q: I have a house that I am considering using a transfer on death deed so that it passes to my son. It would be important for my son to get a basis step-up at my death. Does the TOD deed still allow him to get a basis step-up?

A: A TOD deed can be revoked at any time before your death. For this reason, the tax law ignores the creation of the deed for purposes of the gift and estate tax. No gift has been made yet, as you continue to control the ownership.

When you pass away, if the TOD deed is still in effect, the property will pass through your estate (it will be included as part of your gross estate). The basis adjustment at date of death applies to “inherited” property, which includes any property that is included in your gross estate.

As you might know, in 2018 you may transfer up to $11.2 million during your lifetime or at death without being subject to the gift or the estate tax.

In exchange for the TOD property being included in your estate, which will probably have no tax effect, your son will be entitled to adjust the tax basis of the property to its date-of-death value.

Q: I bought a Honda Accord in 2010, and my daughter used it during high school, and she now uses it at college. At the end of the school year, I want to gift her the car. I purchased it for $23,000 and she is the only one who has used it. When I am measuring whether the gift is within the $15,000 exclusion, do I have to treat it as if the car were hers from 2010 since I only had her use it? The date makes a difference on the value used for the gift.

A: Although you allowed your daughter to use the car throughout its “life,” you were always the owner and always controlled its use. So, no gift was made from 2010 until now.

If you transfer the title this summer, the gift will be measured using the fair market value of the car now, which will surely be below the $15,000 annual exclusion allowed by the tax law.

This means you will not need to file a gift tax return to report the transfer unless you have made other gifts to your daughter that, with the car, exceed $15,000 for the year.

If you have paid any of her college costs, a payment made directly to the school is not counted against the $15,000 annual exclusion.

Q: I own 10 percent of an apartment building that is under contract to sell. I’m trying to estimate my tax liability for my share of the proceeds. Will this all be ordinary income since we treated the operation as a business? If so, will it qualify for that new 20 percent deduction for business income?

A: You should have no ordinary income. The apartment complex is depreciable real property used in a business, which makes it a “Section 1231” asset. Gains from Section 1231 asset sales are treated the same as long-term capital gains.

There is a “netting” process that you apply to these gains, and the favorable capital gains rates apply only when you have a net Section 1231 gain for the year. There is also a special rule that may create ordinary income if you have reported a net Section 1231 loss in the five tax years before 2018 (2013-17).

So, you should check your 2013-2017 tax returns to be sure that special rule does not apply to you. Beyond that, you will have all net capital gains eligible for favorable tax rates.

What the favorable rate is depends on your regular tax rate and also on whether the gain in question comes from an actual increase in the value of the complex or from having depreciated the property before sale.

Gains created by claiming depreciation can be taxed at no more than 25 percent; other net capital gains can be taxed at no more than 20 percent. But your actual rate may be lower depending on your income.

You won’t get the 20 percent deduction for net capital gain income.

Jim Hamill is the director of Tax Practice at Reynolds, Hix & Co. in Albuquerque. He can be reached at jimhamill@rhcocpa.com.

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