In general, the recipient of a gifted asset is typically not required to pay taxes on that asset unless they decide to sell it. The reason for this is because when a person is gifted assets or property through an inheritance, that person also inherits the donor’s tax basis in the assets or property.
The tax basis for the purposes of a gift, also referred to as the transferred basis or a carryover basis, is defined as the amount that the donor paid for the gifted assets prior to transferring them to the recipient.
If a gifted asset increased in value from the time that a donor purchased and gifted it (i.e., appreciated) to the recipient, then any future sale of the gifted asset by the recipient cannot exceed that of the fair market value of the gifted asset at the time they received it.
For instance, if you were gifted an antique lamp from a family member that originally cost them $5,000, but is now worth $10,000 in today’s market, you would only be able to reap $5,000 from the sale since your family member only had a $5,000 tax basis in the antique lamp when they initially purchased it.
In addition, there are some gifted assets or property that will need to be reported to the U.S. Internal Revenue Service (“IRS”) if they are above the exclusion limit set for the current year. While it is the donor and not the recipient that will have to be mindful of this threshold, the recipient will have to be wary of a capital gains tax if they decide to sell the gifted asset in the future.
Thus, whether or not you will need to pay tax upon selling gifted assets will depend on how much you sell it for, your income bracket, and a whole host of other factors. Therefore, it is strongly recommended that you speak to a local tax attorney about issues regarding the sale of gifted assets and the taxes you may have to pay before you attempt to sell any assets or property that you received as a gift.
What Is the Basis For a Gifted Asset?
As mentioned, the basis that a taxpayer acquires in an asset that is in the form of a gift, is the same level that the donor or last owner of the gifted asset had prior to transferring the gifted asset or property. This is in direct contrast to the step-up basis that a taxpayer acquires in an asset in the form of an inheritance. If a gifted asset is exchanged or sold at a loss of profit, then the basis will be whichever of the two amounts is lower:
- Either the fair market value of the asset at the time of the gift; or
- The amount of the donor or preceding owner who did not acquire the asset as a gift’s initial tax basis.
If a taxpayer sells a gifted asset that has decreased in value at a price that is lower than the initial donor or owner’s tax basis, but above the fair market value of the asset at the time of the gift, then they will not need to report the loss or recognize the reduction of income. This is known as the “double basis rule.”
For instance, A has a tax basis in an asset of $50. A decides to transfer that asset as a gift to B. At the time the gift is transferred, the fair market value of the asset is $30, meaning it has lost value or depreciated. B later decides to sell the gifted asset for $45 to an unrelated party. Thus, B will not need to report or recognize the loss of income since the asset is being sold for more than the fair market value, but less than A’s initial tax basis in the gifted asset.
What If the Donor Paid Gift Taxes?
If a donor paid gift taxes on the asset before it was transferred, then the donor’s tax basis in the gifted asset must be adjusted accordingly. A taxpayer may increase the tax basis in the gifted asset by the amount of any federal gift tax that was paid in association with the gift.
Generally speaking, a taxpayer may increase the tax basis of a gifted asset up to the fair market value of the asset at the time of the transfer of the gifted assets.
What About an Asset Purchased for Far Below Fair Market Value?
Under normal circumstances, a taxpayer will have a tax basis that is equivalent to the amount that they paid for the asset or property if it was purchased from an unrelated party. If the taxpayer was able to purchase the asset or property at a significantly lower price than what it is actually worth, the income from that property will not need to be recognized at the time of purchase in the same way that it would for an inherited or gifted asset.
If there is an established employment relationship between the buyer and the seller, then it may be possible that the percentage that the buyer was able to get it reduced by may qualify as compensation for the buyer’s work and thus it may be fully taxable as either wages or an income tax.
In such a scenario, the tax basis in the asset that will be transferred to the buyer will be the amount they paid for the asset at the time of sale plus the percentage of the value that was subtracted as a bargain and is considered part of the buyer’s taxable income.
On the other hand, if there is a close relationship between the buyer and the seller, such as if the parties are related, then the purchase will likely be considered as part of a part-sale and part-gift asset. In which case, the tax basis that is carried over to buyer would be whichever of the following costs are greater:
- Either the amount paid by the buyer to purchase the asset; or
- The tax basis of the donor or prior owner of the asset who did not receive the asset as a gift.
Like the tax basis guidelines for gifted assets and property, if the asset or property acquired in a part-sale, part-gift transaction is exchanged or sold at a loss, then the basis of the asset to the donor or buyer will be limited to the fair market value of the asset at the time the gift was received.
Do I Need an Attorney to Help Me with My Tax Problems?
If you are experiencing issues with taxes in connection with the sale of a gift asset, then it is strongly recommended that you hire a local tax lawyer for further legal advice on the matter as soon as possible. A qualified tax lawyer in your area can discuss the different types of taxes that may affect the sale price and value of an asset that you received through an inheritance.
Your lawyer can also answer any questions you may have about taxes in general or concerning your tax basis in a particular gifted asset. In addition, if there is a dispute over taxes upon the sale of a gifted asset, your lawyer will be able to provide legal representation in court as well.
Finally, if you think there is an error with the amount of taxes you need to pay for the sale of a gifted asset, then your lawyer will also be able to communicate with the IRS on your behalf to resolve the problem.
