Estate Recovery of Taxes Deducted by Decedent

No distinction that I see. If we get carried away, we'd have estate tax reporting of the prepaid property tax (the part not "earned" at date of death) even if the property is not sold. That's theoretical, not practical.

If you don't see a distinction, that means you would treat the real estate tax refund the same as an income tax refund and include them both on Form 706. But you also make a reference to getting "carried away" and doing something that isn't practical if we go down that path. So, I can't tell exactly where you stand on the matter.

I stand that it's theoretically correct but rarely if ever done because it's not practical. Kind of like that family gifts of relatively small value are rarely if ever included in gift tax returns, and in general, used clothing and furniture of modest relative value often not included in estate tax returns.

Rhetorical question: Have you ever seen " prepaid" property taxes included in the value stated on a gift tax return (or unpaid property taxes used to reduce said value)?

So it's theoretically correct to report the entire amount of real estate taxes allocable to the remainder of the real property tax year on Form 706. In that case, it would be theoretically incorrect to report a reimbursement of said taxes as income to the estate. So, no income tax reporting required, then?

Are you referring to information return reporting or income tax return reporting, and in what facts?

I'm referring to income tax return reporting in the scenario I described in #1 and #19.

Well, if an estate tax return was filed or will soon be, I'd have to consider:
Amount of increased estate tax (and maybe state inheritance tax), compared to
Amount of decreased income taxes, taking into account that
It would be inconsistent to omit from the estate tax return and include the tax basis as if it had been in it.
And I'd definitely include the tax basis in the income tax return if there was no rewuired estate tax return.

Because, end of the day, there might be reasonable arguments both ways, and
I'd explain the tax situation to the client, and
The only decision I'd not go along with is the one that requires inconsistency.

What's your conclusion?

I agree on all counts.

Let's say you are preparing the estate's 1041 and taking the Backemeyer position. So the basis and the deduction against it net exactly to zero. Do you show anything on the TR?

No, I don't see why it should be any different from individuals who don't put state income tax refunds on line 1 of Schedule 1 because they didn't receive a tax benefit from the amount in question.

I was thinking of the 6-year statute, but ...

two points.

1 There is is no relation between Bakemeyer and §164

2. From a Fiduciary Accounting standpoint how do you post the receipt of the Real Estate allocation?

My entry would be an addition to Corpus as income in respect.

My vote is that the decedent's final income tax return was (as noted by Henry David) incorrectly prepared.

My vote is that the decedent's final income tax return was (as noted by Henry David) incorrectly prepared.

But HenryDavid said this:

Section 164(d)(1), from my read, doesn't allow deducting prepaid taxes when the property is sold (during a "real property tax year").

And Jeff-Ohio says this: The individual taxpayer didn’t sell the property.

1 There is is no relation between Bakemeyer and §164

If you mean no relation b/c Bakemeyer didn’t involve Sec 164, fair enough. Sec 164 needs to be applied within the framework of some kind of accounting method and, for good measure, we could even throw in the IRS’ notion that the taxes need to be assessed first. You can go back to all the Hradesky, etc. line of cases as to that issue. Seems Chay’s client met all these requirements, even though the assessment “requirement” is hotly debated.

My entry would be an addition to Corpus as income in respect.

Chay would probably say it was already in Corpus, with the offsetting debit sitting in a Prepaid. So the “receipt” would be posted against the Prepaid.

Phew... It's lucky for me that I threw in this caveat: And it's been a really long time since I've dealt with the apportionment concepts in 164(d), if they even matter.

I am with sjrcpa. It is no different. Tax benefit was recevied by the taxpayer when it deducted the property taxes on the rental while he was still alive. Estate needs to include the property taxes as income on the Schedule E.

It is no different. Tax benefit was recevied by the taxpayer when it deducted the property taxes on the rental while he was still alive.

Do you and SJR have a cite as to the application of the Tax Benefit Rule in the case of a state income tax refund of a decedent?

And here’s one possible difference, in case it matters:

When a single person dies, his tax year is cut-off. All income/expense/credits are known as of his DOD, other than something like the 1-year medical expense rule. Although we don’t file his final federal and state income tax returns until the following April, whatever state income tax refund he is due was based on everything that happened while he was alive (aside from something like the 1-year medical expense rule, but that’s not really a wrench, since those expenses are treated as paid by the decedent while alive). The point is that the state tax refund, once computed, is really a DOD date-based item, as something that is due back to the decedent, even though there is some admin that has to take place after death to fix the amount.

In the case of a pro-ration of real property tax, there is nothing that is “owed back” to the decedent as of his DOD. Something is only owed back because of a future sale, which is an event that transpired after his death.

So, that is one difference, in case it matters.

Jeff-Ohio wrote:

Chay would probably say it was already in Corpus, with the offsetting debit sitting in a Prepaid. So the “receipt” would be posted against the Prepaid.

Fascinating...♫

Fiduciary Accounting is a system devised by lawyers for lawyers. It is exclusively cash based and bears little resemblance to what one would consider an "accounting method" Personally I have never seen an item recorded as corpus before it was actually collected, and the concept of a prepaid expense of undetermined value is beyond my ability to find in UPIA. As always, however, I defer to the attorney.

For the record, if the sale occurred before the due date of the 706 I would include the amount as income in respect. If I knew the sale was imminent I would extend. In the odd case where it occurred after filing but before the end of the real property tax year(If that is even possible) I would ignore as de minimus.

My vote is that the decedent's final income tax return was (as noted by Henry David) incorrectly prepared.

For the record, if the sale occurred before the due date of the 706 I would include the amount as income in respect.

Aren't you contradicting yourself here?

No. Income in respect does not have to be taxable income. Decedent paid the bill and for 706 purpose Sale adjustments are taxable value. If there was an insurance refund that would be another. If the estate paid the insurance bill would you deduct the payment on Schedule E or net of refund?

few observations thus far:

1. I don’t see how the decedent’s final 1040 was prepared incorrectly. Decedent was entitled to the deduction, plus, Chay does not make mistakes.

2. It seems that things are getting confused here between IRD and the Tax Benefit Rule. Take a look at Footnote #4 in the Backemeyer case. Also consider some of the language in that case:

Respondent also argued that Mrs. Backemeyer was not entitled to a step-up in basis under section 1014 when she inherited the farm inputs from her late husband in 2011. However, in his answering brief, respondent changed course. He stated that he believes the tax benefit rule controls the outcome in this case and therefore he is no longer asserting the other positions advanced in his opening brief.

Maybe the IRS was confused too… because if the IRS originally asserts no step up, but doesn’t originally assert the tax benefit rule, it seems they originally asserted IRD. Either that or they originally asserted the farm inputs weren’t estate includible. In other words, original IRS argument must have been (1) estate includible, but it’s IRD, so no step up or (2) not estate includible, so no step up.

3. With that said, what exactly is the relationship between IRD and the Tax Benefit Rule (TBR) in the overlapping 1040/1041 area, given that two different taxpayers are involved?

A. Is the TBR a standalone doctrine in the estate area (and by standalone, I mean is applies, all by itself, to the
overlapping situation of a 1040 deduction and then to a recovery by the decedent’s estate)? I might say that we don’t need it to get us into Sec 691. That is, we don’t need it to “create” IRD. If something fits the definition of Sec 691, nothing else is needed to get it into Sec 691.

B. So, if the TBR really isn’t conjoined with Sec 691, is it a “standalone” doctrine in the overlapping 1040/1041 area? The only case that I know of that even entertained the TBR as a standalone doctrine in the 1040/1041 area was Backemeyer. The court acknowledged a much in its decision. By agreeing to give life to the TBR as a standalone doctrine, the judge implicitly is saying that it would apply as a standalone doctrine, as something that applies in addition to Sec 691. Or is he really saying that? Is he simply entertaining the idea and then telling us why it really doesn’t apply?

4. I have a hard time believing that we have IRD here. I think the pro-rated real estate tax fails the definition, as laid out in the Regulation, but I’m all ears. That would leave us with the tax benefit rule, assuming it is a standalone doctrine in the estate area.
5. I think the IRS got it right in RR 78-292, not just in result, but in the fact that they didn’t even mention the TBR. I also tend to think something like the decedent’s state tax refund would fall into Sec 691. I tried to explain in Post #35. In my view, the insured decedent was “entitled” to the medical expense reimbursement “at death.” Ditto for his state income tax refund. While some stuff had to take place to actually get the money, that doesn’t matter much. Whatever those amounts turned out to be, the decedent had a right to them, an entitlement.

6. When you have a real estate tax pro-ration, the county doesn’t send you back a portion of the property tax you paid for the period that you won’t, any longer, own the property. What you’ve effectively done is paid the future buyer’s tax for the future buyer. It is the buyer that repays you (or the estate) at closing. (And if the estate didn’t sell the property, we wonder about a duplicate deduction by the estate, for the Prepaid amount it succeeded to).

the adjustment amount would not be an accession to wealth because the taxes paid became an intangible asset that was part of the estate all along.

Makes sense to me. When the guy died, the estate was the proud beneficiary of prepaid RE tax. That “asset” got whittled down a bit, due to the passage of time, and then the balance got converted to cash (the pro-ration credit on the closing statement). It’s a changing out of one “asset” whose value was $X (at the time of the change-out) for another asset whose value was also $X on that same date.

I have never noticed a relationship between the tax benefit rule and valuation of income in respect for either estate tax or fiduciary accounting purpose. Neither have I encountered a situation where an item not included in date of death cash was properly ignored when restored. I find it difficult to understand the difference in treatment arising from a refund from a party other than the one actually paid. It is hard for me to accept a difference between a reimbursement that is fixed as at death like state income tax liability, one that could vary such as medical insurance reimbursement and one that is circumstantial.

I am comfortable with the fairly established concept that the estate "steps into the shoes" of the decedent and estate receipts are treated in the same manner as they would have been treated by the decedent had he lived.