Taxes and Appreciating Investments
Appreciating investments are investments that rise in value while yielding no income to you. If you have an investment from which you receive no income (e.g., your estate or a piece of art), it may increase in value over time but you will not be taxed until it is sold. With a carefully-timed sale, you can improve your tax position and your financial status.
If you transfer an appreciating investment to your child, he/she may choose to sell the investment, incurring the lower tax rate that corresponds with their lower income level. Note that your child must be older than age 19 to qualify (or 24 if they are a full-time student). Before proceeding with this option, you should also consider the potential implications concerning gift tax.
You may want to transfer an appreciating investment to your spouse upon your death, which will be tax-free (thanks to the estate tax marital deduction). As an added bonus, estate taxes have been repealed for the 2010 tax year only.
Large asset transfers, however, are subject to tax. ‘Carryover taxes’ are imposed on assets above $3,000,000 (if your spouse inherits them) and above $1,300,000 (if someone other than your spouse inherits them.) The ‘carryover basis,’ for tax purposes, is considered to be equal to the amount you originally paid for the asset.
2010 may be a better year to sell your appreciating investments. In 2011, the asset threshold will decrease to $1,000,000 and the maximum estate tax rate will increase to 55% (from its present 45%). Also in 2011, inherited property will be taxed according to its fair market value on the date of death, rather than based on the amount that the deceased originally paid for it ? this is called the ‘step-up basis.’ Or, you may want to hold your appreciating investment until you have a year with fewer capital gains (putting you in a lower income tax bracket) before you sell it.
Keep in mind that there are other things to consider when selling appreciating investments, besides the benefit to your taxes (such as property taxes and closing costs.)
On the other hand, your investment may be appreciating at such a rate that it makes more sense to sell it later.
An ideal investment is one that appreciates faster than the rate of inflation. You may keep your investments until they can be used to fund a comfortable retirement and/or benefit your heirs and spouse when you have passed on.
Appreciating investments can include your house, a valuable sculpture, or even stocks and bonds in your portfolio. These types of investments are attractive because you do not have to pay taxes on them until you sell them. For this reason, appreciating investments can be a big help with your taxes when the time comes to sell them strategically.