Inheritance

[Christian]

A client came in whose mother had just passed away. She has three heirs and left a parcel of land with standing timber in equal parts to them. Ever eager to get their hands on mom's money the estate executor has already sold the timber. The proceeds from the sale will be paid to the mother's estate. Down the road I am going to be asked to prepare a Form 1041 for him. My question involves the tax on this sale. Technically the heirs were selling inherited property. My thinking is to pass the sale proceeds through the estate giving each heir a K-1 and let them pay any tax due which ought to be none as the lady died a matter of weeks ago. Your input will be appreciated.

[Catherine]

Sounds to me like, technically, the estate was selling estate property before distribution to the heirs. Passing through sales proceeds via K-1 to the heirs is the right way to handle it. Assuming there were no provisions in the will/trust documents that required something else. Read the legal documents; while we are not lawyers (and don't even play ones on TV) we still need to read those. There are provisions that can affect how we handle taxation of certain items, pass-through to beneficiaries, and more.

[Terry D EA]

Catherine has nailed this one. Do as she says. Read read read as you won't regret it. This is so true especially if there is a trust involved.

[Mr. Pencil]

My thinking is to pass the sale proceeds through the estate giving each heir a K-1 and let them pay any tax due which ought to be none as the lady died a matter of weeks ago.

Although the fiduciary tax rate is 35%, since there is no gain anyway you can use other reasons for deciding whether to distribute the sales proceeds. Look up the special rules for reporting timber sales. It's ordinary income or loss because the estate did not hold the timber for investment. Don't forget to reduce the basis of the remaining property by whatever you allocate to the timber.

[Lion EA]

TImberTax.org

[Christian]

I'll need to do a bit of reading. Pencil if it passes to the heirs as ordinary income they will owe regular income tax on it. Really bad news. The mother had held it as investment property.

[Mr. Pencil]

if it passes to the heirs as ordinary income they will owe regular income tax on it. Really bad news. The mother had held it as investment property.

It doesn't matter what it used to be in the now-cold hands of the decedent--clearly the estate only held it for sale. But like everything else in the mother's taxable estate, it got a new basis at fair market value. Which is presumably the same as sales price three weeks later. So although it's a reportable transaction there's no gain

In fact there are probably deductible expenses. I suppose those are for estate administration, but I don't really know. Schedule F doesn't seem right because it wasn't for profit.

Another way it might sort of look like gain is when they sell the land, basis will only be FMV at death excluding the timber value.

[kcjenkins]

I'll need to do a bit of reading. Pencil if it passes to the heirs as ordinary income they will owe regular income tax on it. Really bad news. The mother had held it as investment property.

The basis was stepped up at her death, so her basis is not relevant. Sold right away means zero gain or loss. Sch D 'inherited' property.

[mcb39]

I am not so sure that there is not a gain as cut timber almost always has a 100% gain. Generally there is no basis in the timber, only in the land. Lion is correct to refer you to timberTax.org.

[Mr. Pencil]

Sch D 'inherited' property.

Report on Form 4797. Since the property was held for sale rather than investment, it was not a capital asset.

cut timber almost always has a 100% gain

Please cite a source for that opinion.

[Christian]

Thanks guys & gals. My thinking was he would have to go back to the timber's original basis.

Since the family can use the stepped up basis the heirs will owe no tax. Secondly I agree with KC. It can be reported as inheritance on Schedule D. I have reported inherited assets that way and have seen it so reported by a couple of local CPAS as well.

[kcjenkins]

Report on Form 4797. Since the property was held for sale rather than investment, it was not a capital asset.

The property was not 'held for sale' by the heirs, they inherited it and promptly sold it.