The new twist this year is the way that Republicans have structured the legislation, breaking with their approach in bills from 2000, 2001 and 2005.
Back then, they paired estate tax repeal with what’s known as modified carry-over basis. Under that system, heirs who choose to sell inherited assets pay capital gains taxes on the full gain since the asset was purchased, minus an exemption to protect families outside the very top of the wealth scale.
2010 Only
In what became the law for 2010 only, heirs could reduce that tax with a capital gains exemption of up to $1.3 million, with an extra allowance for surviving spouses. That approach ensured death wasn’t a taxable event and allowed heirs to defer taxes until they chose to sell.
This year’s bill is different. It retains what’s known as the step up in basis, which lets heirs defer taxes until they sell and avoid taxes entirely on any increases in value that occurred before they inherited the assets.
That bypasses the complexities and legal fights around carryover basis. It can also be a potent combination, extending rules that now apply for people with less than $5.43 million to the entire population.
Consider a married couple who starts a business with $1 million and both die in 2015 when the business is worth $50 million. They leave the business to their daughter, who sells it for $60 million in 2017.
Capital Gains
Under current law, the couple would have a $10.86 million exemption from the estate tax and pay a top rate of 40 percent on the rest. The daughter would then pay a 23.8 percent capital gains tax on a $10 million gain, for a total tax bill of about $18 million.
Under previous Republican plans, the couple would have paid no estate taxes. The daughter, however, would have to pay capital gains taxes on the entire $59 million gain minus the exemptions, for a total tax bill of about $13 million.