Tax basis is used to determine the taxable value of an asset. Typically the "basis" of that asset is determined by the purchase price. The value of that asset may either increase or decrease during a lifetime. Any increase is considered a capital gain and any decrease a capital loss.
A step-up in basis adjusts the value of inherited property to the fair market value at the time of the owner's death. Instead of using the value of the asset at the time of the original purchase, the tax basis is the asset's fair market value at the time of the owner's death.
A capital gains tax applies to profits made on assets. Using a normal tax basis, the result would look like this: if you bought a house for $300,000 and sold it for $500,000, you would be required to pay capital gains tax on the $200,000 of profit.
Using a step-up basis, the result would look like this: if your parents purchased a home for $100,000 and its value jumped up to $300,000 when they passed away, your basis would be $300,000. If you sold the property for $350,000, you would only be required to pay capital gains taxes on the $50,000 gain.
The gift tax applies to gratuitous transfers during one's lifetime. For 2024, the annual gift tax exclusion is $18,000 per individual and is typically adjusted annually for inflation. If you were to make a $30,000 gift to your child this year, a gift tax return would be triggered for exceeding the set amount. In addition, the $12,000 over the excluded amount would count against your lifetime gift tax exemption, which is currently $13.61 million per person.
Revocable Living Trusts are typically created with assets that have already been taxed. To avoid double taxation, the federal government created the federal estate tax exemption, which currently allows an individual to inherit $13.61 million over his/her lifetime without being taxed. This value is expected to decrease by 2026.
The GST exemption is also currently $13.61 million per individual for their lifetime, and like the gift tax, there is an annual exclusion amount for each skip person (i.e., grandchildren). If you make a taxable generation-skipping transfer in a given year, you would also be required to file a gift tax return.
