Gains, losses and estate tax returns / What can I deduct in 2012 for the estate?

Karin Price Mueller/The Star-Ledger  writes: Question. My mother had a fairly large stock portfolio. In 2011 I sold a portion of her stocks to cover her living expenses. She died in 2011. Her final tax return reflected the sale of the stock and a net loss in capital gains. As executor, I sold off the rest of her stock in 2012, which had a capital gain. Can I use the losses in final tax year of 2011 to offset the gains for the estate in 2012? Also, her home is now in the estate. What can I deduct in 2012 for the estate? — JS

Answer:  We’re sorry to hear about your mom.  When you sell stock, the difference between the net sales price and the price at which you purchased the stock, or the basis, is reported as gain or loss on your income tax return in the year of sale and may be subject to tax.

When an individual dies, capital assets held by the decedent obtain a "step-up" or "step-down" in basis, said Catherine Romania, an estate planning attorney with Witman Stadtmauer in Florham Park. So when the asset is sold by the estate, the basis for determining gain or loss is not the decedent’s original basis but the value of the assets as of the date of death (or in some cases, six months after death).  An estate is a separate taxpaying entity from the decedent.

"You cannot use losses incurred by your mother and reported on her final income tax return for 2011 to offset any gains incurred by the estate and reported on the estate’s income tax return (Form 1041) in the following year," Romania said. "However, upon your mother’s death, any assets included in her estate received a `step up’ in basis to the value on her date of death."

Romania said this is the value that should be used for basis in computing any gains or losses realized by the estate, and generally will reduce the gains that sale of these assets would otherwise generate.

Any unused net operating losses incurred by the estate, however, may be passed through to the beneficiaries, an exception to the general rule that losses incurred by one taxpaying entity cannot be passed through to another, she said.

As for her home, note that deductions permitted on an estate tax return are not necessarily the same as those that are permitted on an income tax return, said Ruth Lynch Buchwalter, an estate planning attorney with Day Pitney in Parsippany.

"Assuming that the home was not specifically devised, such as your mother’s will did not say `I give my home on Blackberry Lane to my only son,’ the first rule is that almost all expenses that are deductible may only be deducted once, either on the federal estate tax return or the federal income tax return, but not on both," Buchwalter said.

If your mother’s estate was less than $5 million, a federal estate tax return probably wouldn’t have been filed for her estate, she said. In that case, you are only concerned with the income tax returns.

"As executor, you must consider why you are holding this home in the estate to determine what deductions are permitted," she said. "If the estate is holding the home as an investment to generate rental income, then the same expenses that are deductible by an individual owning rental real estate are deductible on the income tax return for your mother’s estate." She said insurance, maintenance expenses, and property taxes would be deductible on the estate’s income tax return.