On July 31, 2015, President Obama signed into law the Surface Transportation and Veterans Health Care Choice Improvement Act of 2015, Pub. L. No. 114-41, 129 Stat. 443 (the “2015 Act”). The 2015 Act created two new provisions in the Internal Revenue Code, IRC §§ 1014(f) and 6035. IRC § 1014(f) provides the new “basis consistency requirement.” IRC § 6035 provides new reporting requirements on executors, who now, in addition to filing Form 706, must file new Form 8971 and furnish its Schedule A to beneficiaries of the estate. The 2015 Act also provides failure-to-file penalties for the reporting requirements and a 20% underpayment penalty for an “inconsistent estate basis.” On January 29, 2016, the IRS published Form 8971, “Information Regarding Beneficiaries Acquiring Property from a Decedent.” On March 4, 2016, the Treasury published proposed regulations under both IRC § 1014 and IRC § 6035. See 81 Fed. Reg. 43, at 11,486.
Reporting Requirements Under IRC § 6035
The new reporting rules are found in IRC § 6035, Prop. Treas. Reg. § 1.6035-1, and the instructions to Form 8971. The rules apply only to estates that are required, under IRC § 6018, to file an estate tax return when such return is filed after July 31, 2015. IRC § 6035(a)(1), Prop. Treas. Reg. § 1.6035-1(i). Estates that file solely to elect portability, solely to make a generation-skipping transfer tax exemption allocation, or solely as a protective filing to avoid penalties in the event of changes in asset values are not required to file Form 8971. Prop. Treas. Reg. § 1.6035-1(a)(2). The deadline for filing Form 8971 with the IRS and for furnishing its Schedules A to the beneficiaries is 30 days after the filing of the federal estate tax return. The IRS has postponed this deadline to June 30, 2016, for all estates otherwise required to file before that date. Notice 2016-27, 2016-15 I.R.B. 576. Persons required to file Form 8971 can include not only executors but also administrators and, in some cases, beneficiaries. Prop. Treas. Reg. § 1.6035-1(g)(1); IRC §§ 2203, 6018(b).
Executors must include on Form 8971 identifying information for each beneficiary as well as the dates the executor provided a Schedule A to each beneficiary. Form 8971 and all Schedules A must be signed by the executor and filed with the IRS. The executor must complete a Schedule A for each beneficiary who can receive property from the estate. Each Schedule A should include every item of property that could potentially pass to the recipient. This will require executors, in cases in which multiple assets could be used to satisfy a general bequest, to list each of those assets on one Schedule A, even though not all of those assets will pass to that beneficiary. Similarly, the same asset may be required to be listed on multiple Schedules A if that asset could be used to satisfy bequests to multiple beneficiaries. The executor who is able to sell assets before filing Form 8971 (for example, if the assets are marketable securities) can choose to do so to avoid reporting those assets on Schedule A.
In general, all property reported or required to be reported on an estate tax return also must be reported on Form 8971 and Schedule A. Prop. Treas. Reg. § 1.6035-1(b)(1). The value to be reported is the “final value” as described under Prop. Treas. Reg. § 1.1014-1(c). Four types of assets, however, are exempt from the reporting requirements:
- items of income in respect of a decedent (IRD),
- tangible personal property for which an appraisal is not required (see Treas. Reg. § 20.2031-6(b)), and
- assets disposed of by the estate in a taxable transaction (for example, a sale) before the filing of Form 8971. Prop. Treas. Reg. § 1.6035-1(b)(1).
For purposes of the requirement to furnish a Schedule A to each “beneficiary,” the term “beneficiary” includes:
- in the case of a life estate, the life tenant;
- in the case of a remainder interest, the remainderman, were the life tenant to die immediately after the decedent; and
- in the case of a contingent interest, the beneficiary, unless the contingency has occurred before the filing of the Form 8971.
In the case of a beneficiary that is a trust, Schedule A should be furnished to the trustee. In the case of a beneficiary that is an estate, Schedule A should be furnished to the executor of the estate. In the case of a beneficiary that is an entity, Schedule A should be furnished to the entity.
An executor can be required to file a supplemental Form 8971, or furnish a supplemental Schedule A, in cases in which (1) a contingency negates the inheritance of a beneficiary to whom a Schedule A was issued, Prop. Treas. Reg. § 1.6035-1(c)(1), (2) an executor locates a beneficiary after filing Form 8971 and issuing Schedules A to other beneficiaries, if any, Prop. Treas. Reg. § 1.6035-1(c)(4), or (3) there is an “adjustment” to the information required to be reported. Prop. Treas. Reg. § 1.6035-1(e)(1). Examples of “adjustments” include the discovery of property that should have been (but was not) reported on an estate tax return and a change in the value of property under an examination or litigation. See Prop. Treas. Reg. § 1.6035-1(e)(2).
The reporting rules extend not only to the executor but also to a beneficiary who makes a subsequent transfer of his property. Generally speaking, Prop. Treas. Reg. § 1.6035-1(f) requires that, if property previously reported or required to be reported on Form 8971 (and thus on the recipient’s Schedule A) is received by a beneficiary of the estate, and that beneficiary then makes a gift of the property to a related party, the beneficiary must file a supplemental Schedule A with the IRS and furnish a copy to the transferee. This rule applies not only to gifts but also to any “transaction in which a related transferee determines its basis, in whole or in part, by reference to the recipient/transferor’s basis.” A supplemental Schedule A is required to be filed even if the beneficiary transfers the property before he has received a Schedule A from the executor. In such a case, the beneficiary is required to report the transfer, but he need not provide the information regarding date-of-death value that would typically be included on Schedule A. If the transfer occurs before the final value is determined within the meaning of Prop. Treas. Reg. § 1.1014-10(c), the transferor must provide the executor with a copy of the supplemental statement filed with the IRS and furnished to the transferee to notify the executor of the change in ownership of the property. When the executor subsequently files a Form 8971 and issues Schedule A, the executor must provide Schedule A (or supplemental Schedule A) to the new transferee instead of to the transferor.
New IRC §§ 6724(d)(1)(D) and 6724(d)(2)(II) include Form 8971 and Schedule A in the failure-to-file penalties provisions under IRC §§ 6721 and 6722. Under these rules, the penalties are $250 per statement, reduced to $50 per statement if the error is corrected within 30 days of the due date of the statement. IRC §§ 6721(a)(1), (b)(1), 6722(a)(1), (b)(1). The existing penalty provisions also waive penalties in certain cases of corrected late filings. See IRC §§ 6721(c)(1)(C), 6722(c)(1)(C).
Basis Consistency Requirements Under IRC § 1014(f)
IRC § 1014(f) provides that the basis of property received from a decedent may not exceed the fair market value of the property as reported on the estate tax return if such value is “final,” or, if such value is not final, then as reported on Form 8971. This rule applies only to assets that increased the estate tax owed by an estate. IRC § 1014(f)(2). Before the enactment of IRC § 1014(f), values reported on an estate tax return created only a rebuttable presumption for income tax basis. Taxpayers, especially those who did not participate in the handling of the decedent’s estate, could offer evidence that date-of-death fair market value was higher than reported on the estate tax return. See Rev. Rul. 54-97, 1954-1 C.B. 113.
Now, if IRC § 1014(f) applies, the transferee of estate assets must accept the date-of-death fair market value reported by the executor for estate tax purposes, whether or not the taxpayer participated in or was even aware of the determination of such value. Central to the operation of the rule is the concept of the property’s “final value” for federal estate tax purposes. Under IRC § 1014(f)(3), as interpreted by Prop. Treas. Reg. § 1.1014-10(c), the final value of property has been determined for estate tax purposes when:
- 1. the value of such property is shown on a federal estate tax return and such value is not contested by the IRS before the expiration of the estate tax statute of limitations;
- 2. if such estate tax reporting and the running of the statute of limitations has not occurred, then if the value of the property is specified by the IRS and such value is not timely contested by the executor;
- 3. if neither (1) nor (2) above has occurred, then the value determined in an agreement, once the agreement is final and binding on all parties; or
- 4. if none of (1), (2), or (3) above applies, the value determined by a court, once the court’s determination is final.
If no “final value” has been determined for any property, then the regulations provide that the recipient of that property may not claim an initial basis in that property in excess of the value reported on his Schedule A. Prop. Treas. Reg. § 1.1014-1(c)(2).
An executor is required to indicate, in Column C of Form 8971, whether an asset contributed to the amount of the federal estate tax payable by the estate. Consistent with IRC § 1014(f)(2), the instructions to Form 8971 provide that any property that qualifies for the marital deduction under IRC § 2056 or 2056A or a charitable deduction under IRC § 2055 does not, for this purpose, contribute to the amount of federal estate tax payable by the estate. In a case in which estate tax will be payable, however, any other property should be checked “Y,” indicating that it may be subject to IRC § 1014(f).
Under IRC § 6662(b)(8), a 20% accuracy-related penalty applies to the portion of any underpayment attributable to an “inconsistent estate basis.” There is an “inconsistent estate basis” if the basis of property claimed on a return exceeds the basis as determined under IRC § 1014(f). IRC § 6662(b)(8). This penalty applies whether or not the taxpayer acted with negligence or intentional disregard of the rules. See IRC § 6662(b)(1).