1/17/2024

California Living Trust Stepped Up




Stepped-Up Basis California Living Trusts: Tax Advantages 

A living trust can be a powerful tool for managing your assets and ensuring a smooth transition after your death. But did you know it can also offer significant tax advantages, particularly through the concept of stepped-up basis?

Here's what you need to know about how stepped-up basis works in the context of a California living trust and the potential tax benefits it can offer:

What is Stepped-Up Basis?

Stepped-up basis is a legal principle that resets the cost basis of an asset for tax purposes to its fair market value on the date of the owner's death. This means that any appreciation that occurred before the owner's death is not considered taxable income for the beneficiary who inherits the asset.

How Does This Apply to California Living Trusts?

When assets are transferred into a revocable living trust, they retain the same cost basis as when you purchased them. However, upon your death, the assets held in the trust receive a step-up in basis to their fair market value. This applies to a wide range of assets, including:

  • Real estate: If you purchased a home for $200,000 in 1990 and its value skyrockets to $800,000 at your death, the beneficiary's cost basis becomes $800,000. If they sell the house immediately for $800,000, they will owe no capital gains tax.
  • Stocks and bonds: Similarly, any appreciated stocks or bonds held in the trust will receive a step-up in basis, potentially shielding future sales from capital gains taxes.
  • Other tangible assets: This can also apply to cars, jewelry, artwork, and other valuable items.

Tax Advantages for Beneficiaries:

This stepped-up basis can translate to significant tax savings for your beneficiaries. They inherit assets with a higher cost basis, meaning they only pay capital gains tax on any appreciation that occurs after they inherit the asset. This can be extremely beneficial for assets that have been held for a long time and have experienced significant appreciation.

Additional Considerations:

  • Bypass trusts: While assets in a revocable living trust receive a step-up in basis, this may not apply to assets held in a bypass trust. Bypass trusts are designed to shelter assets from your estate tax, but they also forfeit the step-up in basis advantage. Bypass is when the trustee dies or trustees and amendments or continuing new trustees come in to play.
  • Capital gains tax rates: Remember, even with a stepped-up basis, beneficiaries will still owe capital gains tax on any appreciation that occurs after they inherit the asset. However, the stepped-up basis can significantly reduce the overall tax liability.

Consult with a Professional:

While the concept of stepped-up basis in the context of California living trusts offers substantial tax benefits, it's crucial to consult with a qualified estate planning attorney. They can guide you through the nuances of living trusts, bypass trusts, and other estate planning tools to ensure you create a plan that maximizes tax efficiency for your beneficiaries. The Trust needs proper formatting, legalese, witnesses not party to any asset, a notary stamp and needs a will to be an accompanying document which I explain in other posts is not provided to a title officer or lender.

A key advantage of a Living Trust is that residency of the beneficiaries is not a factor when it comes to inheriting property. Unlike wills, which are subject to probate court laws that can vary by state, Living Trusts bypass probate and distribute assets according to the terms set forth in the document, regardless of where the beneficiaries are located.

Here are some of the benefits of this for heirs and beneficiaries:

  • Flexibility: Beneficiaries can live anywhere in the world and still receive their inheritance from the Living Trust. This is especially helpful for families with members scattered across different countries or states.
  • Streamlined process: Inheritance through a Living Trust avoids the potentially lengthy and costly probate process. This means beneficiaries receive their inheritance faster and with less hassle.
  • Privacy: Living Trusts are private documents, unlike wills which become public record after the death of the grantor. This means the financial details of the inheritance are not publicly available.
  • Tax benefits: In some cases, Living Trusts can offer tax advantages for beneficiaries, depending on the type of assets held in the trust and the laws of the relevant jurisdiction.

While residency doesn't matter, it's important to note that the terms of the Living Trust itself may dictate how the property is distributed or used. For example, the grantor may specify that the property can only be used for certain purposes, like vacationing or providing income for a specific beneficiary.

Here are some additional points to consider:

  • If the property is real estate, there may be local laws or regulations that affect its use or ownership, regardless of the Living Trust.
  • The Living Trust document should be clear and unambiguous about the beneficiaries' rights and responsibilities. Consulting with an attorney specializing in estate planning can help ensure the document is properly drafted and meets the grantor's intentions.
  • It's always a good idea for the grantor to communicate their estate planning wishes to the beneficiaries, including the terms of the Living Trust and any expectations they may have regarding the property.

Overall, the ability of beneficiaries in a Living Trust to live anywhere is a significant advantage for families wanting to distribute assets with flexibility and avoid unnecessary delays or complications. Remember, careful planning and clear communication are key to ensuring a smooth and successful transfer of assets to loved ones, regardless of their location.

Heirs, Beneficiaries, and the California Home Sale Tax Exclusion: DO Not CONFUSE WITH STEP UP BASIS

When it comes to inheriting or receiving property in California, understanding the tax implications is crucial. This includes being aware of the home sale tax exclusion, which allows homeowners to exclude a portion of the profit from the sale of their primary residence from their taxable income. In California, the exclusion varies depending on whether you're an individual or a married couple filing jointly:

  • Individual: You can exclude up to $250,000 of profit from the sale of your home.
  • Married filing jointly: You can exclude up to $500,000 of profit from the sale of your home.

However, it's important to note that heirs and beneficiaries don't automatically inherit the home sale tax exclusion. This means that if you inherit a home and then sell it, you won't be able to use the deceased homeowner's remaining exclusion unless you meet the ownership and usage requirements yourself.

Here's a breakdown of how the exclusion applies to different scenarios:

Inheriting a home:

  • Ownership and usage: To qualify for the exclusion, you must have owned and used the home as your primary residence for at least two out of the five years before the sale. This applies even if you inherited the home.
  • Inherited basis: When you inherit property, its tax basis generally adjusts to its fair market value at the date of inheritance (known as "stepped-up basis"). This means that the potential capital gain you'll face when selling is calculated from the inherited value, not the original purchase price. This can significantly reduce your taxable gain, even if you can't claim the full exclusion.

Benefiting from a trust:

  • Trust type: The type of trust can affect how the home sale tax exclusion applies. In some cases, the trust itself may be eligible for the exclusion, while in others, the individual beneficiaries may be able to claim it if they inherit the home and meet the ownership and usage requirements.

Additional points to consider:

  • The exclusion only applies to capital gains from the sale of a primary residence. It doesn't apply to other types of property, such as investment properties.
  • There are additional eligibility requirements for claiming the exclusion, such as not having claimed it on another home sale in the previous two years.
  • Tax laws can be complex, and it's recommended to consult with a tax advisor to understand your specific situation and how the home sale tax exclusion applies to you.

In conclusion, while heirs and beneficiaries don't automatically inherit the home sale tax exclusion, understanding the ownership and usage requirements, as well as the stepped-up basis rule, can help you navigate the tax implications of selling an inherited property. Consulting with a tax professional is always advisable for ensuring accurate and personalized advice based on your unique circumstances.

Legal Resources:

  • Internal Revenue Code (IRC) Section 1014: This section of the US tax code establishes the general rule for step-up in basis for inherited property. While not specific to California, it's the federal foundation for the concept.
  • California Revenue and Taxation Code (CRTC) Section 18031: This section outlines California's inheritance tax, which has been repealed but still holds relevance for understanding historical basis adjustments.
  • Proposition 19 (2020): This California ballot measure reformed property tax assessments for inherited homes, impacting property taxes for beneficiaries receiving stepped-up basis.

2. Case Law:

  • United States v. Craft: This 1955 Supreme Court case upheld the constitutionality of step-up in basis under federal law, setting a precedent relevant to California inheritance.

3. Articles and Resources:

  • Investopedia: Step-Up in Basis: Definition, How It Works for Inherited Property: Provides a clear explanation of step-up in basis with specific examples for California beneficiaries.
  • Financial Alternatives: Step-up in cost basis: What California residents need to know: Discusses the double step-up benefit for surviving spouses in California and potential tax implications for heirs.
  • California Department of Finance: Proposition 19: Offers official information on the measure and its impacts on inherited property taxes.
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Remember, legal matters are complex and seek a CPA and a tax attorney for advice.

 THIS IS NOT LEGAL ADVICE. Get your own attorney.

 

 

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