This article builds on the post from last month which provides an introduction to the basic concepts related to tax basis. Access that article here to learn more.
 
A significant part of the estate planning process is determining how and when to distribute a person’s assets among their friends and loved ones, as well as to charitable and other organizations. If a person has any appreciated assets (assets that have increased in value beyond the person’s basis in them), the so-called “step-up” in basis may come into play within the estate plan. This article will introduce the tax rule known as the step-up in basis and explain some of the ways in which it should be considered during the estate planning process.
 
What is a “step-up” in basis?
In most cases, when the owner of an asset leaves it to someone else upon their passing, the recipient’s basis in the asset is the fair market value of the asset on the date of the owner’s death. Since many assets tend to appreciate over time, the result is that the recipient’s basis is often higher than the original owner’s basis. This increase in basis in an asset upon the death of the original owner is called a “step-up” in basis.
 
The importance of a step-up in basis arises when the recipient sells the asset. Because capital gains (and losses) are measured using the difference of the sale price of an asset and the basis, having a higher basis means that the recipient will realize a smaller capital gain (or a larger loss) and thus have a smaller capital gains tax burden. For a highly appreciated asset, this could lead to significant tax savings.
 
As discussed in a previous article, the owner of an asset generally must expend money – either by paying taxes or paying for improvements – to increase their basis in a piece of property. The step-up in basis that occurs at death is one of the few ways that basis can be increased without incurring any costs, so it represents a special opportunity to save on taxes through careful planning.
 
How can the step-up in basis affect estate planning?
When a person has an asset that they want to eventually give to someone else, there are basically two options for when to transfer the asset: either during the owner’s lifetime – as a gift – or upon the owner’s passing. As discussed previously, when a person receives an asset as a gift, the recipient’s basis in the asset is the same as the original owner’s. However, when an asset is transferred upon the owner’s death, the recipient gets a step-up in basis.
 
This means that the recipient of a lifetime gift who then sells the asset will owe the same capital gains taxes that the original owner would have owed on the sale. In contrast, the recipient of an asset transferred at death will only ever owe capital gains taxes on appreciation that occurs after the original owner’s death – all of the capital gains taxes that would have been due if the original owner had sold the gift during their lifetime never arise because of the step-up in basis.
 
For example, suppose that "A" purchased some stock in 2007 for $15,000.00 and that the stock has appreciated to a value of $70,000.00 in 2025. A plans to give the stock to her son "B" at some point. If A gives the stock to B as a gift during A’s lifetime, B will get the same basis in the stock that A has: $15,000.00. That means that if B then sells the stock for $70,000.00, B will be realizing a capital gain of $55,000.00, potentially incurring capital gains taxes of upwards of $11,000.00. If A instead decides to keep the stock for the rest of her life and leave it to her son, B’s basis in the stock will be the fair market value of the stock on the date of A’s death. If this value is $80,000.00, B will then be able to sell the stock for up to $80,000.00 without realizing any capital gains, and B will only potentially owe capital gains tax on appreciation beyond that value. Thus, A can give B the same shares of the same stock, but by waiting until A’s death before making the transfer, B can enjoy significant tax savings. The primary trade off is that B has to wait until after A's passing before accessing any funds from the sale of the stock.
 
This example illustrates the fact that, from the perspective of capital gains, transferring a highly appreciated asset at death can lead to substantial tax savings when compared to gifting the same asset during the original owner’s lifetime, as long as the person receiving the gift can afford to wait for it.
 
Is there ever a “step-down” in basis?
It is also important to understand that when the original owner’s basis in an asset was higher than the fair market value of the asset on the date of the owner’s death, the recipient’s basis in the asset will be lower than the original owner’s was. This is called a “step-down” in basis. While less common, a step-down in basis is disadvantageous to the recipient, so if the owner of an asset has a basis in the asset that is much higher than the asset’s fair market value, the owner should probably consider selling off or gifting the asset during life.
 
Does cost basis matter in all cases?
As a final note, if the recipient of an asset never sells it off, no capital gains taxes will be incurred, so having a higher or lower basis in the asset will not affect the recipient’s income tax liability. An example of this might be a situation in which the asset is a house and the recipient intends to continue living in the house indefinitely.
 
If you are interested in learning more about how the step-up in basis should be considered in connection with your estate plan, contact us today to schedule a consultation.
 
Copyright © Stone, Doyle & Heffel 2025.
 
This article is intended for informational purposes only and not for the purpose of giving legal advice for a specific person or situation. Nothing in this article should be taken as legal advice, and reading it does not create an attorney-client relationship.

​Basis is a key element of the calculation of capital gains taxes, but it may be an unfamiliar concept for many people. In simplest terms, a capital gain (or loss) is the difference between the value at which an asset is sold and the value at which it was acquired, and the basis essentially represents the acquisition value which is imputed to an asset’s owner. If the owner of an asset sells the asset for a value which is higher than the owner’s basis in the asset, there is a capital gain. Conversely, if the owner of an asset sells the asset for a value which is less than the owner’s basis in the asset, there is a loss. Since many capital gains are taxable both at the state and federal levels, understanding basis is often an essential step in determining income tax liability.

​This post will provide an introduction to some of the different ways that basis can be calculated and also a few situations in which basis is adjusted.
 
How is basis usually calculated?
In general, the basis of an asset is the amount that the owner paid to acquire it. This is also called the “cost basis.” For example, if you buy a share of stock for $25.00, your basis in the stock is $25.00. If you buy a house for $350,000.00, your basis in the house is $350,000.00, and so on. Since most people use money to acquire most of their assets, cost basis is the most common type of basis, especially for securities and other assets which cannot be improved or depreciated.
 
When a person purchases an asset using debt, the principal of the loan is included as part of the basis. For example, if you buy a house for $800,000.00, paying $150,000.00 in cash and financing the rest with a loan for $650,000.00, your basis in the house is $800,000.00. When you make payments against the loan and reduce the principal outstanding, you increase your equity in the house, but your basis remains the same. Importantly, loan interest payments are not included as part of an owner’s basis in a piece of property.
 
How is basis calculated for assets that are bartered rather than sold?
While less common than sales, people also frequently barter for goods and services. In this type of arrangement, one person provides an asset to another person in exchange for a different good or service. In such exchanges, there is no cash that changes hands, so a person’s basis is determined using the fair market value of the asset received in the exchange. For example, if a handyman does repair work at a customer’s house in exchange for a used power tool with a fair market value of $300.00, the handyman’s basis in the tool is $300.00. Similarly, if you trade a painting worth $500.00 to your neighbor in exchange for a used e-bike, your neighbor’s basis in the painting is $500.00.
 
How is basis handled when an asset is given as a gift?
When one person gifts an asset to another, no payment is required in exchange, so the new owner of the asset acquires it without incurring any cost. However, the new owner’s basis in the asset generally is not zero. Instead, the recipient of a gift gets the same basis as the gift giver.
 
For example, suppose a single homeowner purchased her home in 1975 for $50,000.00. Assuming that the homeowner maintained the house but did not make any improvements, her basis in the house is still $50,000.00. If the market value of the house is now $900,000.00 and the homeowner sells, she would realize a capital gain of $850,000.00 (which could be lowered by $250,000.00 if she takes the primary residence exclusion), and thus owe significant capital gains taxes. If she instead gifted the house to her son, the son would have the same $50,000.00 basis, and he would also face significant capital gains tax liability if he ever sold the house.
 
When is a person’s basis adjusted?
A person’s basis in an asset is adjusted up or down in various situations, but as a general rule, if the owner spends money to improve or increase the value of an asset, the basis is adjusted up, and if the owner takes a deduction for depreciation or some other tax credit, or receives an insurance payout when an asset is damaged or destroyed, the basis is adjusted down. For example, if a homeowner spends $100,000.00 to add on a new bedroom and bathroom to a house, the homeowner’s basis in the house will typically increase by $100,000.00.
 
Another important basis adjustment happens when gift tax is paid on the transfer of an asset. When the gift giver pays gift taxes on a gifted asset, the recipient’s basis in the asset is increased by the amount of the gift taxes that were paid. For example, suppose a homeowner has a basis of $10,000.000 in a piece of real property which is now worth $100,000.00. If the homeowner gifts the property to his daughter and pays $32,000.00 in gift taxes on the transfer, the daughter’s basis in the property will be $42,000.00.
 
For depreciable assets, basis is adjusted down each year as the asset depreciates. The reduction in basis is equal to the amount which the asset’s owner deducts for depreciation (or the amount which the owner was entitled to deduct). This continues until the basis of the asset reaches zero.

If you are interested in learning more about how basis should be considered in connection with your estate plan, contact us today to schedule a consultation.
 
Copyright © Stone, Doyle & Heffel 2025.
 
This article is intended for informational purposes only and not for the purpose of giving legal advice for a specific person or situation. Nothing in this article should be taken as legal advice, and reading it does not create an attorney-client relationship.

Trusts are the first topic that is likely to come up when discussing a California estate plan. But what is a trust and why is it beneficial to have one? This post will outline the basics of California trusts and explain why the vast majority of estate plans are built around a living trust.

What is a trust?
At its most basic, a trust is an arrangement in which one or more assets are held by one person for the benefit of another. The key persons in a trust arrangement are the Settlor (sometimes called the Trustor), who initially owns the assets to be held in trust, the Trustee, who holds title to and manages the assets according to the terms laid out by the Settlor, and the Beneficiary or Beneficiaries, who have the right to receive some or all of the assets, or the income that they generate, either immediately or at some potential future time.
 
In some trusts, the Settlor, Trustee, and Beneficiary are all different people. For example, if a parent transfers a sum of money to a financial manager to hold in trust for the benefit of the parent’s child, the parent is the Settlor, the financial manager is the Trustee, and the child is the Beneficiary. In other trusts, the Settlor can also be the initial Trustee, and even the main Beneficiary.
 
Is a trust a legal entity?
In California, a trust is not a legal person (like a corporation or municipality) with the ability to take legal action and hold property in its own name. Instead, a trust is a relationship that exists among the Settlor, Trustee, and Beneficiaries, governed by the rules provided by the Settlor when establishing the trust. As such, it is the responsibility of the Trustee to take any actions that are required to protect, manage, and use the assets held in trust for the benefit of the Beneficiaries.
 
Who can enforce a trust?
If a Trustee fails to abide by the rules of their trust, the Beneficiaries have the right to sue the Trustee and demand that the provisions of the trust are followed. Because the Settlor is also a Beneficiary in many trusts, Settlors can also take legal action to enforce their trusts when a Trustee is not complying with the provisions of the trust. In some instances, the Trustee may even be liable for money damages, if the Trustee breaches a fiduciary duty in a way that causes the Beneficiaries to suffer financial harm. Most of the time, however, a Trustee can be persuaded to take appropriate action without the need for a lawsuit.
 
A carefully drafted trust will include provisions for removing a Trustee when necessary, such as when the person serving as Trustee has become mentally or physically unable to perform their duties. Moreover, the Settlor of a revocable trust can typically remove a Trustee at any time by amending the trust to appoint a different Trustee.
 
For charitable trusts, the Attorney General has the primary responsibility for enforcing the trust to ensure that its provisions are being carried out, but a charitable trust can be drafted to give other charities or even individuals the power to enforce its terms.
 
What are the benefits of having a trust as a part of my estate plan?
The primary benefits of having a trust, rather than just a will, as the central part of an estate plan include avoiding the need to put loved ones or friends through the arduous and complicated probate process, facilitating smoother and cheaper transfers of assets following the Settlor’s passing, maintaining privacy around how assets are to be distributed, providing protections for young Beneficiaries or those who have special needs, allowing a successor Trustee to step in and manage the Settlor’s assets if it becomes necessary during the Settlor’s lifetime, and allowing for easier adjustment of the estate plan in response to changing life circumstances.
 
When a trust is created for estate planning purposes, the Settlor is the initial current Beneficiary, and also typically serves as the initial Trustee. These trusts can be drafted such that they are essentially invisible during the Settlor’s lifetime; the person who creates the trust has all of the same property rights and freedom to deal with their own assets that they had before creating the trust.
 
An estate planning trust typically only becomes relevant when the Settlor stops managing their own assets and the successor Trustee steps in. This can occur because the Settlor has become physically or mentally unable to manage their own finances, or because the Settlor has simply decided to step back and let the successor Trustee handle things, or due to the Settlor’s death. With a trust in place, on any of these events, there is a successor Trustee ready to quickly step in and manage the Settlor’s affairs.
 
Having a trust allows the successor Trustee to gain control of the Settlor’s accounts, property and other assets held in the trust, using relatively simple and quick processes which generally don’t require a court order. This means that a Settlor with an estate planning trust in place can feel secure in the knowledge that, should anything happen, their successor Trustee will be able to manage their assets and provide for the Settlor’s needs during life and then distribute the remaining assets to the Settlor’s chosen Beneficiaries.
 
Assets that are distributed via a trust typically do not need to go through the probate process, so the Beneficiaries are usually able to receive distributions much more quickly, cheaply, and with more privacy than would be possible with only a will.

Another important advantage of having a trust is that it allows the Settlor to manage assets for the benefit of certain Beneficiaries over a longer period, rather than simply giving them a lump sum distribution following the Settlor’s death. This can be used to provide for young Beneficiaries who need time to mature before being given the responsibility of managing their own assets, or other Beneficiaries who the Settlor believes would be better served by getting periodic income and support for necessities, rather than a one-time payout. Similarly, while a pet cannot be a Beneficiary, a trust can be used to provide for the care and support of one or more animals during their lifetimes. For pet owners who are unable to entrust their pets to friends or family, this is one way to ensure that their pets will receive the care that they need.

What should I do if I want to learn more?
If you are interested in getting more information about trusts or discussing whether a trust would be a useful addition to your estate plan, contact us today to schedule a consultation.

 
Copyright © Stone, Doyle & Heffel 2025.
 
This article is intended for informational purposes only and not for the purpose of giving legal advice. Nothing in this article should be taken as legal advice, and reading it does not create an attorney-client relationship.