Sale of Farmland to heirs

[neilbrink]

Client died in 2010. She had been receiving contract sale payments from her son for a farm that he had purchased from her many years ago. Cost basis was established at that time. The son decided to buy outright the farm from the heirs. In calculating the tax liability of the heirs, each would have a tax liability based upon the cost basis that was determined at the time of the original contract agreement. Since this was farmland, this information would go on Form 4797. Does anyone see anything that is not correct in this statement?

[DANRVAN]

Sounds like he is paying off the contract which his siblings inherited. The land is already his; subject to the contract as I understand it.

[kcjenkins]

Neil, I'm not exactly clear on this situation. The family members each inherited an interest in the contract, right? Their basis in that would be the FMV of the share of the contract on DOD, not the mother's basis. Why would that create a tax liability to the heirs?

[DANRVAN]

Good to see you back KC!

I believe this is a situation where the taxpayer “steps into the shoes” of the decedent. If mother had been reporting gain on installment sale, then beneficiaries would do likewise. If son pays off contract to siblings, then entire payment is subject to gross profit percentage.

If son inherited a share of the contract then it really gets interesting! In that situation, his portion of the inherited contract is considered paid on DOD.

This situation is very close to an example used in several estate planning studies and is discouraged because there is no step up basis for installment contracts.

If you need a cite Neil, I will be glad to look it up and post it.

[jainen]

>>there is no step up basis for installment contracts<<

Normally this is true because it is income in respect of a decedent. However, if the "farm" was depreciable business property, installment treatment was not allowed on sale to a related party. Maybe "many years ago" the seller failed to report capital gain in full, but if the statute of limitations is past, it's past. The contract is revalued at date of death, with capital gain/loss calculated on sale accordingly.

[DANRVAN]

-Here is a website that uses the classic example:

http://www.extension...nts/M1178-7.pdf

-Here is a reference with cites.

Income in Respect of Decedent

Installment contract payments that are unpaid at the time of death of a decedent are income in respect of a decedent (IRD) to the estate or other recipient of the contract [i.R.C. § 453B©]. The total IRD is the excess of the face amount of the remaining installment obligation over the decedent’s basis in the contract at the time of death [i.R.C §§ 453B( and 691(a)(4)].

The remaining gain on the contract is not generally reported on the decedent’s final income tax return [i.R.C. § 691(a)(4)]. Instead, the IRD is reported by the recipient of the payments as the remaining payments are made.

Practitioner Note

Cancellation at Death

An exception applies if the remaining payments on an installment contract are canceled on the death of the contract holder, or if the buyer of the installment contract inherits the remaining payments. When this occurs, the payments are treated as being made in full to the estate in the year of death, and the estate must report the gain on its income tax return.

Installment payments received by a decedent’s estate or other beneficiary are included in gross income in the same way the decedent would have reported them [Treas. Reg. § 1.691(a)- 5(a)]. In other words, an installment contract does not receive a basis adjustment to FMV upon the death of the contract holder.

[DANRVAN]

He said it was farmland in original post.

I don't now how the smiling face got into my previous post. Past my bed time.