Cost Basis and Taxes

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Video Transcript

So I just wanted to share with you a quick story about a client that recently came in for review. So Maggie was sharing with me and most of you know, Maggie, because she’s one of our lead advisors here. She’s been with me for about 16 years, so, but she was sharing with me that the client had went and visited an attorney. And the attorney had recommended that he changed ownership of his mother’s house over to him. Now, this is something that I advise against all the time, because when you transfer ownership, you’re also transferring the cost basis. So what do I mean by that? Well, when the attorney recommended he transfer ownership of mom’s house over to him, he transferred mom’s cost basis, which was $50,000.

So let’s suppose that mom’s market value of her house today was 500,000. And the ownership transfer takes place. And now, the client now owns this house at $50,000. Well, when mom dies, and he goes to sell it, he’s going to owe taxes on everything above the cost basis of 50,000. So in this case, the house was worth 500,000. The cost basis was 50,000. So he owed taxes on $450,000.

Now, the reason I advise against it is because one of the greatest tax strategies is something called a step up in cost basis. Let’s say the house was just left alone, and that attorney did not give what I would consider poor advice. The client, if they would have just left it alone, when mom died, the client would have owned mom’s house at the current market value. So the client would own the house at 500,000. That’s the step up in cost basis.

So technically, if he turned around and sold it that day, he would have owed zero in taxes. But instead, he gets advice to transfer the ownership transfer the cost basis, and it creates a huge taxable event. Now, is it terrible advice in every situation? Maybe not. Maybe there’s emergency situations like a nursing home crisis situation that takes place that maybe you want to consider that, but rarely, rarely would you ever, ever want to do that? And I hear people ask me all the time, I’m considering transferring ownership of my mom’s home. I don’t want the nursing home to take it. Well, I’ll tell you what, I think I would rather risk the nursing home taking it than creating a huge taxable event for yourself in the future. Consider that next time someone says to you to transfer the ownership of a home to you. Remember, the cost basis will transfer with it.

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