In the final days of the 111th Congress, lawmakers enacted estate tax legislation effective for 2011 and 2012 that established an exemption level of roughly $5 million (indexed for inflation after 2011) and a top tax rate of 35 percent. Without further action, in 2013 the tax will in revert to a $1 million exemption and a 55 percent rate. Because most members will find that unacceptable, there is continued pressure on Congress to address the estate tax.
There are three key elements to any estate tax proposal: (1) the exemption level; (2) the estate tax rate; and (3) the basis rules. While all three elements are important for all types of estates, estates with significant amounts of depreciable real property are especially concerned with how various types of basis rules may affect them.
The Importance of Stepped-Up Basis
Repealing stepped-up basis not only harms heirs of commercial property, it can also have the unintended consequence of exacerbating the nation’s affordable housing shortage. Consider the example of heirs who receive an apartment property that rents to low- and moderate-income households. The property has no basis and sizeable debt. If the heirs want to sell the property, they will face a depreciation recapture tax of 25 percent and a capital gains tax of 15 percent on any remaining gain, which is often more than the likely sales price of the property. Knowing that the property is likely worth less than the tax bill, the heirs will also be discouraged from investing further capital to maintain it. As a result, the property will remain “frozen” and may deteriorate to the point that it is lost to the affordable housing stock.
In the interest of promoting certainty and stability in the tax code, NMHC/NAA urge Congress to swiftly enact permanent estate tax legislation that retains a stepped-up basis regime along with a $5 million exemption and a 35 percent tax rate. If this proves impossible, Congress should at a minimum extend current law when it addresses other expiring tax cuts during the lame duck session of Congress set to convene in November. We also commend lawmakers for simplifying the law and enabling couples to more easily claim the entire $10 million exemption. We encourage them to retain that improvement in any long-term legislation.
Last Updated: November 2012
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