IRS Proposed Regulations Concerning Basis Consistency and Reporting for Property Acquired from a Decedent

By:
Kevin Matz, CPA, Esq., LLM
Published Date:
May 1, 2016

On July 31, 2015, President Obama signed the Surface Transportation and Veterans Health Care Choice Improvement Act of 2015 (the “Highway Act”) into law. The Highway Act, among other things, added new provisions to IRC sections 1014(f) and 6035 concerning basis consistency and reporting for property acquired from a decedent. These new statutory provisions apply to federal estate tax returns filed after July 31, 2015 and have two primary components:  (1) a substantive rule requiring basis consistency that is set forth in IRC section 1014(f); and (2) reporting requirements imposed upon executors and certain other persons under IRC section 6035. The act also enacted related penalty provisions under IRC sections 6662, 6721 and 6722.

Congress left it to the U.S. Department of the Treasury and the IRS to figure out how to implement these rules. It originally gave the IRS until August 31, 2015 to do so – only 30 days. The IRS has on three separate occasions issued notices postponing the filing deadlines, with the most recent notice pushing back the filing deadline for Form 8971 until June 30, 2016.

On March 4, 2016, the IRS published proposed regulations under IRC sections 1014(f) and 6035, which are summarized in this article. The proposed regulations request comments by June 2, 2016 and it is anticipated that a number of professional organizations will oblige.   

Consistency of Basis with Estate Tax Return

Proposed Regulation section 1.1014-10(a)(1) provides that a taxpayer’s initial basis in certain property acquired from a decedent may not exceed the “final value” of the property as that term is defined in section 1.1014-10(c). This limitation applies to the property whenever the taxpayer reports to the IRS a taxable event with respect to the property (for example, depreciation or amortization) and continues to apply until the property is sold, exchanged, or otherwise disposed of in one or more transactions that result in the recognition of gain or loss for federal income tax purposes. The property for this purpose includes any other property the basis of which is determined in whole or in part by reference to the basis of the property acquired from the estate or as a result of the death of the decedent - for example, as a result of a like-kind exchange or involuntary conversion.

Property that Increases Estate Tax Liability

The consistent basis requirement of IRC section 1014(f)(1) applies only to property whose inclusion in the decedent’s gross estate for federal estate tax purposes increases the federal estate tax liability payable by the decedent’s estate. Proposed Regulation section 1.1014-10(b) defines this property as property includible in the gross estate under IRC section 2031, as well as property subject to tax under IRC section 2106, that generates a federal estate tax liability in excess of allowable credits. The proposed regulations specifically exclude all property reported on a federal estate tax return required by IRC section 6018 if no federal estate tax is imposed upon the estate due to allowable credits (other than a credit for a prepayment of that tax). 

In cases where federal estate tax is imposed on the estate, the proposed regulations exclude property that qualifies for a charitable or marital deduction under IRC sections 2055, 2056, or 2056A because this property does not increase the federal estate tax liability. The proposed regulations also exclude any tangible personal property for which an appraisal is not required under Treasury Regulation section 20.2031-6(b) (relating to the valuation of certain household and personal effects) because of its value - generally, there is a $ 3,000 cutoff. Thus, if any federal estate tax liability is incurred, all of the property in the gross estate other than specified excluded property is deemed to increase the federal estate tax liability and is subject to the consistency requirement of IRC section1014(f).

Final Value of Property Acquired from a Decedent

IRC section 1014(f)(3) provides that for purposes of IRC section 1014(f)(1), the “final value” of property has been determined for federal estate tax purposes if: (1) the value is reported on a federal estate tax return filed with the IRS and is not contested by the IRS before the period of limitation on assessment expires; (2) the value is specified by the IRS and is not timely contested by the executor of the estate; or (3) the value is determined by a court or a settlement agreement with the IRS.

Proposed Regulation section 1.1014-10(c)(1) defines the “final value” of property that is reported on a federal estate tax return filed with the IRS. That value is the value reported on the federal estate tax return once the period of limitations on assessment for adjusting or contesting that value has expired. If the IRS determines a value different from the value reported, the final value is the value determined by the IRS once the estate can no longer contest that value. If the estate timely contests the value determined or specified by the IRS, the final value is the value determined in an agreement that is binding on all parties, or a court’s final determination of the value.

Proposed Regulation section 1.1014-10(c)(2) provides that the recipient of property to which the consistency requirement applies may not claim a basis in excess of the value reported on the statement required to be furnished under IRC section 6035(a) (the value shown on the federal estate tax return) if the taxpayer’s basis in the property is relevant for any purpose under the IRC before the final value of that property has been determined under Proposed Regulation section 1.1014-10(c)(1). Under IRC section 1014(f)(1), however, basis cannot exceed the property’s final value. Therefore, Proposed Regulation section 1.1014-10(c)(2) provides that if the final value is determined before the period of limitation on assessment expires for any federal income tax return of the recipient on which the taxpayer’s basis is relevant, and the final value differs from the initial basis claimed with respect to that return, then a deficiency and underpayment might result.

After-discovered or Omitted Property

The proposed regulations clarify how the consistent basis requirement applies to property that is discovered after the filing of the federal estate tax return or is otherwise omitted from that return. If this property would have generated a federal estate tax liability had it had been reported, Proposed Regulation section 1.1014-10(c)(3)(i) provides two different results, based on whether the period of limitation on assessment has expired for the federal estate tax. Under Proposed Regulation section 1.1014-10(c)(3)(i)(A), if the executor reports the after-discovered or omitted property on an estate tax return filed before the expiration of the period of limitation on assessment of the estate tax, the final value of the property is determined under Proposed Regulation section1.1014-10(c)(1) or (2), as described above. Alternatively, Proposed Regulation section 1.1014-10(c)(3)(i)(B) provides that if the executor does not report the after-discovered or omitted property before the period of limitation on assessment expires, the final value of the after-discovered or omitted property is zero. 

Finally, to address situations in which no federal estate tax return was filed, Proposed Regulation section 1.1014-10(c)(3)(ii) provides that the final value of all property includible in the gross estate subject to the consistent basis requirement is zero, until the final value is determined under Proposed Regulation section 1.1014-10(c)(1) or (2). 

Definition of Executor for Purposes of IRC sections 1014(f) and 6035

The proposed regulations adopt the definition of the term “executor” found in IRC section 2203 that is applicable for federal estate tax purposes and expand it to include a person that is required to file a return under IRC section 6018(b).

Requirement to Provide Information Return and Statement(s) under IRC section 6035

The proposed regulations define the term “Information Return” as Form 8971, “Information Regarding Beneficiaries Acquiring Property from a Decedent,” including the “Statement” (“Schedule A”) to be provided to each person who has received or will receive property from the estate or by reason of the decedent’s death.

Proposed Regulation section 1.6035-1(a)(1) provides that an executor who is required to file a federal estate tax return must also file Form 8971 with the IRS to report the final value of certain property, the recipient of that property, and other information prescribed by the form.  The executor is also required to furnish a Schedule A to each beneficiary who has acquired or will acquire property from the decedent or by reason of the death of the decedent. Schedule A reports the property the beneficiary has acquired or will acquire, as well as the final value of that property.

Circumstances Under Which Form 8971 or Schedule A is not Required Under IRC section 6035

The proposed regulations provide that the filing requirements of IRC section 6035 do not apply if the executor does not need to file an estate tax return under IRC section 6018. Thus, Proposed Regulation section 1.6035-1(a)(2) clarifies that Form 8971 does not have to be filed if an estate tax return is filed solely to make a portability election under IRC section 2010(c)(5) or a generation-skipping transfer tax election or exemption allocation, where a federal estate tax return is not otherwise required under IRC section 6018.

Property to be Reported on Form 8971 and Schedule A

Proposed Regulation section 1.6035-1(b) defines the property to be reported on Form 8971 and Schedule A as all property included in the gross estate for federal estate tax purposes, with four exceptions:

-- cash (other than coins or papers bills with numismatic value)

-- income in respect of a decedent (e.g., qualified retirement plans and individual retirement accounts)

-- items of tangible personal property for which an appraisal is not required under Treasury Regulation section 20.2031-6(b); and

-- property that is sold or otherwise disposed of by the estate (and therefore not distributed to a beneficiary) in a transaction in which capital gain or loss is recognized. 

An open question relevant to the last exception is what happens if property is sold at a fair market value that is precisely equal to basis so that no gain or loss results. This could very easily occur, for example, if property is sold soon after the decedent’s death because of the step-up in basis to fair market value upon death. In the author’s view, the proposed regulations should be modified so that the fourth exception covers this situation.

Beneficiaries

Proposed Regulation section 1.6035-1(c)(1) provides that each beneficiary (including a beneficiary who is also the executor of the estate) who receives property to be reported on the estate’s Form 8971 must receive a copy of the Schedule A reporting the property distributable to that beneficiary. Proposed Regulation section 1.6035-1(c)(2) provides that if the beneficiary is a trust, estate, or business entity instead of an individual, the executor must furnish the entity’s Schedule A to the trustee, executor, or to the business entity itself - and not to the beneficiaries of the trust, estate, or the owners of the business entity.

Commenters to an earlier IRS Notice requested guidance on how to comply with the IRC section 6035 reporting requirements when the executor cannot determine the exact distribution of the estate’s property (and thus the beneficiary of each property) by Form 8971 and the related Schedule A’s due date. This situation can arise, for example, when tangible personal property defined in Treasury Regulation section 20.2031-6 is to be distributed among a group of beneficiaries as that group determines, when the residuary estate is distributable to multiple beneficiaries, or when multiple residuary trusts are to be funded. In response, Proposed Regulation section 1.6035-1(c)(3) provides the following: If the executor does not yet know what property will be used to satisfy the interest of each beneficiary by the due date, the executor is required to report on Schedule A all of the property that could be used to satisfy that beneficiary’s interest. This results in duplicate reporting of those assets on multiple Schedule As, but each beneficiary will have been advised of the final value of each property that he or she may receive and therefore will be able to comply with the basis consistency requirement, if applicable. Once the exact distribution has been determined, the executor may - but is not required to - file and furnish a supplemental Form 8971 and Schedule A.

Proposed Regulation section 1.6035-1(c)(4) provides that if the executor is unable to locate a beneficiary by Form 8971’s due date, the executor must report that on Form 8971 and explain the efforts taken to locate the beneficiary. If the executor subsequently locates the beneficiary, the executor must furnish the beneficiary with a Schedule A and file a supplemental Form 8971 with the IRS within 30 days of locating the beneficiary. If the executor is unable to locate a beneficiary and distributes the property to a different beneficiary who was not identified as the recipient in Form 8971, the executor is required to file a supplemental Form 8971 with the IRS and furnish the successor beneficiary with a Schedule A within 30 days after distributing the property.

Due Date for Information Return and Statements

Proposed Regulation section 1.6035-1(d)(1) provides that the executor is required to file Form 8971 with the IRS and is required to furnish each beneficiary with that beneficiary’s Schedule A on or before the earlier of (1) the date that is 30 days after the due date of the federal estate tax return (including extensions actually granted, if any) or (2) the date that is 30 days after the date on which that return is filed with the IRS. Proposed Regulation section 1.6035-1(d)(2) provides a transition rule for any federal estate tax return due on or before July 31, 2015 but filed after July 31, 2015. For those returns, the due date of Form 8971 and all Schedule As are 30 days after the date on which the estate tax return is filed.

Supplemental Form 8971s and Schedule As

Proposed Regulation section 1.6035-1(e)(1) and (2) generally require a supplemental Form 8971 and corresponding supplemental Schedule A upon a change that causes the information as reported on Form 8971 to be incorrect or incomplete. Such changes include, for example, the discovery of property that should have been - but was not - reported on the federal estate tax return; a change in the value of property pursuant to an examination or litigation; or  - except as provided in Proposed Regulation section 1.6035-1(e)(3)(B) - a change in the identity of the beneficiary to whom the property is to be distributed - for example, as a result of death, disclaimer, bankruptcy, or otherwise.

Proposed Regulation section 1.6035-1(e)(3) provides that a supplemental Form 8971 and Schedule A may – but is not required to be filed - to correct an inconsequential error or omission within the meaning of Treasury Regulation section 301.6722-1(b) or to specify the actual distribution of assets previously reported as being available to satisfy the interests of multiple beneficiaries in the situation described in Proposed Regulation section 1.6035-1(c)(3), as described above.

Proposed Regulation section 1.6035-1(e)(4) provides that the due date for the supplemental Form 8971 and each supplemental Schedule A is 30 days after: (1) the final value - within the meaning of Proposed Regulation section 1.1014-10(c)(1) - of property is determined; (2) the executor discovers that the information reported on Form 8971 or Schedule A is otherwise incorrect or incomplete; or (3) a supplemental federal estate tax return is filed.

If these events, however, occur prior to the distribution of probate property or of the property of a revocable trust to the beneficiary, a supplemental Form 8971 or Schedule A is not due until 30 days after the property is distributed. The preamble to the proposed regulations express the belief that this is likely to be approximately the same time as when the executor would provide the beneficiary with information as to changes, if any, to the basis of the property that have occurred since the decedent’s death and prior to the distribution. Because that basis adjustment does not have to be reported under IRC section 6035, if the executor chooses to provide that basis adjustment information on Schedule A, the basis adjustment information must be shown separately from the final value reported on the beneficiary’s Schedule A.

Subsequent Transfers

IRC section 6035(a)(2) imposes a reporting requirement on the executor of the decedent’s estate and on any other person required to file an estate tax return under IRC section 6018. The purpose of this reporting is to enable the IRS to monitor whether the basis claimed by an owner of the property is properly based on the final value of that property for estate tax purposes. According to the preamble to the proposed regulations, the Treasury Department and the IRS are concerned that some individuals might circumvent the purpose of the statute by, for example, making a gift of the property to a complex trust for the benefit of the transferor’s family.

Relying upon the regulatory authority granted to the Treasury Department by IRC section 6035(b)(2), the proposed regulations require additional information reporting by certain subsequent transferors in limited circumstances. Specifically, Proposed Regulation section 1.6035-1(f) provides that - with regard to property previously reported or required to be reported on a Schedule A furnished to a recipient - when the recipient distributes or transfers (by gift or otherwise) all or any portion of that property to a related transferee, whether directly or indirectly, in a transaction in which the transferee’s basis for federal income tax purposes is determined in whole or in part with reference to the transferor’s basis, the transferor is required to file and furnish with both the IRS and the transferee a supplemental Schedule A documenting the new ownership of this property. This proposed reporting requirement is imposed on each recipient of the property. For purposes of this provision, a related transferee means any member of the transferor’s family as defined in IRC section 2704(c)(2), any controlled entity - meaning here a corporation or any other entity in which the transferor or members of the transferor’s family (whether directly or indirectly) have control within the meaning of IRC sections 2701(b)(2)(A) or (B), and any trust of which the transferor is deemed owner for income tax purposes. This last prong would appear to apply to a transfer by a transferor to his or her revocable living trust that is an incomplete gift for gift tax purposes. In the author’s view, the proposed regulations should be modified to exclude this last prong where such transfer is an incomplete gift for gift tax purposes. 

In the event such a transfer occurs before a final value is determined within the meaning of Proposed Regulation section 1.1014-10(c), the transferor must provide the executor with a copy of the supplemental Schedule A filed with the IRS and furnished to the transferee, reporting the new ownership of the property. When a final value is determined, the executor will then provide a supplemental Schedule A to the new transferee instead of to the transferor. The supplemental Schedule A is due no later than 30 days after the transferor distributes or transfers all or a portion of the property to the transferee.

Proposed Effective/Applicability Date

Once the proposed regulations are finalized, they will apply to property acquired from a decedent or by reason of the death of a decedent whose estate tax return, as required by IRC section 6018, is filed after July 31, 2015. Taxpayers may rely upon these rules before the date of publication of the Treasury Decision adopting these rules as final in the Federal Register.


Kevin Matz, JD, LLM, CPAKevin Matz, CPA, Esq. LLMis the managing attorney of the law firm of Kevin Matz & Associates PLLC, with offices in New York City and White Plains, New York. His practice is devoted principally to domestic and international estate and tax planning and he is a fellow of the American College of Trust and Estate Counsel (ACTEC). Mr. Matz is also a CPA and is a past chairman of the NYSSCPA Estate Planning Committee. He writes and lectures frequently on estate and tax planning topics. He can be reached  at kmatz@kmatzlaw.com or by phone at 914-682-6884.

 
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