Estate Planning For Highly Appreciated Investments

Even if estate taxes aren’t the driving consideration for your parents’ estate structure, there may still be some good opportunities for tax planning. Particularly around minimizing taxes on capital gains.

Assets held in a taxable account, as opposed to a retirement account, generally receive a step-up in cost basis at death. The basis “resets” to whatever the asset was worth when the owner passed away.

This means the heirs can generally liquidate and diversify those assets immediately with little or no capital gains tax.

One way people waste this opportunity is by giving away those same highly appreciated investments during their lifetime.

Now, gifting isn't by itself bad, and there are plenty of reasons to do it. But from a tax standpoint, you'll want to be thoughtful about which assets you give.

When you gift an investment, the original cost basis generally goes along with it, leaving the recipient with the embedded capital gain. When the giver eventually passes away, those shares do not receive a step-up in basis. 

That creates a fairly simple rule of thumb:

If you are going to make lifetime gifts, cash and assets with smaller unrealized gains are generally better candidates than assets with large gains.

Conversely, highly appreciated stocks, funds, and real estate may be more valuable to keep in the estate until death.

Once you factor in things like estate taxes, trusts, and how long the owner is likely to hold the asset, the analysis can change.

But for many relatively simple estates, one of the most valuable tax-planning tools is the step-up in basis at death. It's worth understanding the tax implications so that you don't waste the opportunity.