When Dan Duncan died in March, he became the first American billionaire since the inception of the estate tax in 1916 to die without a taxable estate. A true self-made man, Duncan was the owner of Enterprise Products Partners, L.P., a natural gas and crude oil pipeline company. He started out in 1968 with $10,000 and a couple of propane trucks, and was worth $9 billion at his death. Duncan’s heirs may have hit a real gusher — Duncan passed in 2010, the year of the one-year repeal of the estate tax.
Duncan passed his home, his ranch, and millions of dollars worth of stock on to his wife. The rest of his billions went to his children and grandchildren. Of course, in any year, assets passing to his wife would pass tax-free. However, if he planned properly, he could have left those assets to her in a bypass trust, thus avoiding taxation even at her future death. (In an upcoming blog, I’ll examine state legislation which may override estate plans which take advantage of this.)
Even though we’re in the middle of the one-year repeal in the estate tax, along with that repeal came a temporary adjustment in the rules used to determine income tax basis for assets passed to heirs. In prior years, when heirs inherited property, they got a step-up in the basis of that property to the fair market value of the property at the time they inherited it. When they eventually sold the property, they paid capital gains tax on the difference between the sales price of the property and the fair market value of the property at the time of inheritance.
This year though, heirs get an adjusted carryover basis rather than a stepped-up basis. This means that instead of the basis being increased to reflect the fair market value of the property at the time of inheritance, the heir’s basis is whatever the decedent’s basis was. The executor could allocate up to $1.3 million of additional basis to assets in the estate. (While another $3.0 million of additional basis could be allocated to assets going to his surviving spouse, we’ll assume that he left the assets in a bypass trust that would not qualify for the spousal additional basis. I’ll examine the tension between funding the bypass trust to the greatest extent possible and getting the maximum additional basis in an upcoming blog.) While the additional basis could be the equivalent to a step-up in a smaller estate, it is rather inconsequential help in an estate with $9 billion of assets and billions of dollars of gains. For example, let’s say Duncan’s income tax basis in his Enterprise stock is the $10,000 and two propane trucks he used to start the business way back when. Let’s say the total value was $100,000. Even if the executor allocated the entire $1.3 million of additional basis to the stock and nothing to other assets of the estate, the basis would be just $1.4 million. Thus, if his heirs sold Enterprise, their gain would be $4 billion less $1.4 million basis, or $3.9986 billion. Even at a 20% capital gain rate, that would be nearly $800 million in tax!
While it may cost Duncan’s heirs hundreds of millions of dollars in capital gains taxes if they sell the inherited property, they may have avoided several billion dollars in estate taxes due to Duncan’s good timing in death—and Congress’ inaction.
Stephen C. Hartnett, J.D., LL. M.
Associate Director of Education
American Academy of Estate Planning Attorneys, Inc.
6050 Santo Road, Suite 240
San Diego, CA 92124