What are you thinking it’s coming up in the future. It’s like the Biden clan going to be getting rid of that 10 31 exchange out of the 10 31 exchange. They want to get rid of step up and basis, and that’s going to affect all of us. That’s huge for anybody who has substantial amount of real estate, it’s going to force you to have to get rid of your real estate during your lifetime, because it’s not going to step up.
Which means if you’ve depreciated it, you’re going to have some substantial recapture. If somebody sells it after you’ve passed and the step-up in basis in English just means. If I have a building that I’ve depreciated or a piece of real estate or stock say I’ve owned stock for 20 years and it’s gone up in value.
The day I pass the basis, steps up to the fair market value on the date that I pass. So if I have a building that I’ve depreciated in my basis might be a little bit of land. Maybe it’s a hundred thousand, it’s a million dollar building right now. If I pass their base, that steps up to a million dollars. I live in a community property state.
So even my spouse could sell it the day after I die pay zero charge, no recapture. If that goes away, then assuming that somebody had to sell an asset after somebody passes or wants to, because they don’t want to manage it. No, they’re going to pay recapture in capital gains on that. So they’re going to pay up there.
Twenty-five percent on the recapture and up to a underbite and it could be 39.6% on the capital gains. So it’s a pretty big hit. Now the other side to that is if it’s real estate, not only does the patient have stepped up, but you can read deep, appreciate it. Sure. You can go back and write it off and you lose that.
So. That’s flying under the radar. And that’s the one that I focus on saying that’s the one that’s going to have the biggest impact. People who are investors are going to get punished under that the old strategy was accumulate real estate and capital assets, 10 31 exchange your real estate into more real estate.
Leverage. Use the proceeds if you need to, for other things. And then pass away and you don’t have to worry about any exams that they could either really appreciate it. So they’re not going to pay any tax on it in the wrench for a long time. So you’re going to appreciate it again after they’ve passed at that higher amount.
And all of a sudden they’re getting huge tax benefits or they sell it and they pay no tax. And so there was always that kind of a silver lining, especially in community property States where the first spouse, everything steps up, dad passes, and mom can sell the stock and not have to worry about getting hit with capital gains.
Now mom could be getting hit with as much as 39.6% federal plus the net investment income tax, which is 3.8, plus their state taxes, which can be as high as 13%. So you could be in a scenario where you’re paying 50, some odd percent you get, it gets a little ridiculous. So is the solution either to wait until a different party is in there and changes a login or some kind of dynasty trust or a trust irrevocable trust that owns the assets.
So it never does a step up. Yeah, that’s a tough one because yeah, because no matter what if I put it into trust, the basis is the basis I’m done. So when they there’s really not much of a strategy on the step-up you can do, what’s called a deferred sales trust. Um, substantial assets or you spread it out over time and you allow a installment sale essentially, and then step up the basis and you sell it and avoid the tax immediately, but you spread it out over, let’s say 20 or 30 years, and there’s still some strategies that you can do to lessen it realistically.
And under those circumstances, it’s just, you’re sitting down going option a, B, C at the time. I’ve seen people make changes. Where they were scared to death. So I’ll give you a good example. I had a client. That was siblings. So there was five siblings and the dad had a office building and this particular office building was in Ohio, but it has substantial value.
So they were worried about the estate tax. So he started giving away interest in the building wasn’t eliminated partnership. So this is back in the day when limited partnerships ruled the world and not LLCs. And he would give his kids these interests. So he transferred the entire building to his children before he passed it, own that building for going on 40 years, the basis was tiny.
And then when he passed, it was in the year that they had the unlimited state tax exclusion. So there wouldn’t have been an estate tax at all. And he would have still been underneath the threshold. It was multimillion dollar building, but he’d given it all to his kids. So his kids said they were going to sell it.
What our basis was his basis, which was almost zero. So they got hit with this huge tax bill that would have been avoided, completely had he just done nothing. And so I tend to look at attorneys that are pushing people to do huge gaps or we’ll make big changes. And I’d say, don’t do that. You don’t know what the future is going to be.
You could make you really hurt yourself. And those that hurt him. There was a little bit of a dispute over whether they wanted to keep it and operate it, but it was like they didn’t have the depreciation. So they actually had income coming in off this thing. And they were like, Oh my gosh, they had to do some fixed up on it.
There was some capital call issues. And so they decided they wanted to sell it. And instead of getting a dollar, they were getting 60 cents. And because it’s not cheap to sell a building. You’re paying the commission, you’re paying the real estate tax, the closing costs and all these things that eats away.
Plus you’re paying long-term capital gains on that thing. And you have a lot of recapture on the original building and in the improvements that they had done thereafter and ended up really hurting. And it was shocking to look at it. And I’m talking to the accountant who advised him the whole time. And I could tell, he was like, Oh, that was what the dad wanted to do.
Overreacted to reach law changes.