Frequently Asked Questions About Taxes

What tax returns are necessary after someone dies?

  • Income Tax Returns
    • Final 1040/540    The decedent's final income tax returns (1040, 540) for the period from January , until the date of death, are due by April 15 of the following year.  For a couple, if one spouse dies, the surviving spouse is entitled to file a joint return for the year of death, again, by April 15 of the following year.
    • Fiduciary Returns (1041/541)   If there is a living trust, usually trust income tax returns (1041,541), often referred to as fiduciary returns, for the period beginning with the date of death, need to be filed.  When they need to be filed will depend on the closing date selected by the Successor Trustee.  That date can be December 31 of the year of death, or a date thereafter, but not later than the last day of the month preceding the month of death.
    • (For example: a decedent who dies May 15, the last day which can be selected for the fiscal year would be April 30 of the following year.  The returns are due 3.5 months after that which would be August 15.)
    • If there is a probate estate, the same basic rules apply.
  • Estate Tax Returns (706)
    • If the value of the decedent’s assets at the date of death exceed a certain value, formally referred to as the “federal estate tax exemption equivalent”, a federal estate tax return (706) is required. If a federal estate tax return is required, so is a California estate tax return (Form ET-1). The exemption equivalent for a decedent dying in 2017 is $5.49 million.
    • Estate tax returns must be filed no more than 9 months after death unless an extension is obtained.  If a tax is due, it must be paid not more than 9 months after death.
    • Even when the estate tax return is not required, it may be prudent to file one anyway.  First, an estate tax return establishes the "stepped-up" basis of assets owned at death (see below.)  Also, if you file a return and later discover additional assets which bring the total estate over the exemption amount, you will avoid a penalty for late filing and probably avoid a tax for late payment of taxes.
    • Remember also that that how the decedent held title at at death - whether in a living trust, joint, or in trust for someone else - doesn't matter.  All such assets, as well as life insurance policies and retirement accounts, are reportable, and possibly taxable.
    • Finally, remember, the federal estate tax return is not an income tax return.  It is a report of the assets belonging to the decedent at death, or, in some instances, six (6) months after the date of death.

What are estate taxes?

Estate taxes are charged by the federal (and sometimes the state) government when the net value of a decedent’s assets at his or her death exceed the federal estate tax exemption equivalent. The current equivalent is $5.49 million (effective for decedents dying on or after January 1, 2017), that is, if the net value of what the decedent owned exceeds $5.49 million, the difference is taxable If the gross estate exceeds $5.49 million, a return is required but if there are sufficient deductions, such as an outstanding mortgage, which bring the taxable estate to less than $5.49 million, no tax will be due.

All assets which pass to a surviving spouse are not taxed by reason of the unlimited marital deduction, except if the surviving spouse is not a citizen in which case marital deduction is limited.

Each spouse is entitled to a $5.49 million exemption. Thus, to the extent the full exemption is not used on the death of the first spouse, the balance of that exemption will be available on the death of the second spouse, in addition to the exemption which is already available to his or her estate.

Is my inheritance taxable?

As a general rule, no.  However, if what you "inherit" consists in whole or in part of deferred income, that income will be taxable.  For example, if your parent dies and names you as sole beneficiary of an IRA, the IRA is taxable to you.  There may be opportunities available to defer the tax which you should fully explore before claiming the IRA.

Second, if there is net income received by the estate or trust for the period from death until distribution, you will be liable for your part of that income.  Most times, however, as a result of expenses incurred in the administration of a trust or estate, the expenses exceed the income.  In either case, at the conclusion of administration, you will be issued a "K-1" which will advise you of the income you must report, or the share of the "excess deductions" you can report, on your personal income tax returns.

What is a "stepped-up" basis?

When an individual sells an asset, such as stock, that is a taxable event; the gain, the difference between what it sold for and its basis, is taxable.  The basis is what the individual paid for it, plus, in the case of real property, the cost of improvements.  However, if the individual continues to own the asset until he or she dies, the basis is stepped up at death, that is, the basis is increased to the value at the time of death.  That will minimize, if not eliminate, any gain when the asset is sold by the Successor Trustee or personal representative.  In short, a stepped-up basis is generally a good thing.  For this reason, we generally recommend that clients who wish to transfer appreciated assets to their children do so by will or trust rather than by lifetime, or inter vivos, gift.

What is a reassessment?

Under Proposition 13, and subsequent laws, property is reassessed on a change of ownership.  A change of ownership includes not just a sale of the home, but also the death of the owner.  The county determines the value of the property as of the date ownership changes, and reassesses retroactive to that date.

There are two important exclusions from reassessment for estate planning and administration purposes.  The county will not reassess property when the interest of a deceased spouse passes to the other spouse.  Also, under Proposition 58, which became law in 1986, the transfer of property to a child also avoids reassessment.  However the claim for exclusion of reassessment must be filed with the county assessor within three (3) years of death and before the property is subsequently sold.