When you choose to sell shares of stock you have inherited, you must report any capital gains to the Internal Revenue Service (IRS). To calculate your capital gains (or losses) you first have to know your cost basis. Normally, cost basis is simply the price you paid for shares of stock plus any broker’s commissions or other costs you incurred. However, if you are selling decedent stocks, you weren’t the person who made the investment. The IRS has special rules you must follow to determine your cost basis for the purpose of calculating capital gains. In general, you are only responsible for capital gains derived from appreciation of the stock that occurred while you owned the shares.
1. Look up the price of the stock on the date of the original owner’s death. Many companies publish the stock's price history on their websites. If not, you can contact a broker and ask for the price on the date of death. If the stock is not publicly traded, you might need to have an accountant determine the fair market value. Normally, the value of the shares on the date of death becomes your cost basis, regardless of what the original owner paid for the shares. Any tax liability due to appreciation of the stock while the original owner held the shares is forgiven by the IRS.
2. Choose the date the stock is sold or six months after the date of death (whichever comes first) if the executor of the estate elects to use this as an alternative valuation date. An executor may use an alternative valuation date when it is necessary to file a federal estate tax return. Executors are likely to do this if the stock has fallen in price since the date of death because a reduced stock value lowers the amount of estate tax. In this instance, the price on the alternative valuation date becomes your cost basis.
3. Adjust the cost basis when you inherit stock co-owned by a spouse. In most states only half of the value of the stock is stepped up (or down) to the value on the date of death. For example, if stock purchased at $10 per share was worth $20 on the date of death, the cost basis for your half of the investment remains $10 and the cost basis for the other half becomes $20. However, check the rules for your state. In some states, the entire cost basis is stepped up or down to the value on the date of death.
4. Adjust the cost basis for stock you inherit that you co-owned with someone other than your spouse. In this situation, the stock basis changes in proportion to the amount the deceased owned. Suppose you owned 60 percent and your partner the other 40 percent. The cost basis for your investment remains unchanged. The cost basis for the remaining 40 percent is changed to the price of the stock on the date of death.
5. Add any transaction costs such as broker’s commissions you pay when you sell the shares to your cost basis. Subtract this amount from the total proceeds from the sale of the stock to calculate your capital gains. If your cost basis (including transaction costs) is greater than the sale proceeds, you have a capital loss you can deduct from your taxes. Otherwise, you have a capital gain.
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