Exemptions, Deductions, and Credits

Generally, the rules for exemptions, deductions, and credits allowed to an individual also apply to the decedent's final income tax return. Show on the final return deductible items the decedent paid (or accrued, if the decedent reported deductions on an accrual method) before death.

Exemptions

You can claim the decedent's personal exemption on the final income tax return. If the decedent was another person's dependent (for example, a parent's), you cannot claim the personal exemption on the decedent's final return.

Standard Deduction

If you do not itemize deductions on the final return, the full amount of the appropriate standard deduction is allowed regardless of the date of death. For information on the appropriate standard deduction, see chapter 21.

Itemized Deductions

If the total of the decedent's itemized deductions is more than the decedent's standard deduction, the federal income tax will generally be less if you claim itemized deductions on the final return. See chapters 23 through 30 for the types of expenses that are allowed as itemized deductions.

Medical expenses.   Medical expenses paid before death by the decedent are deductible, subject to limits, on the final income tax return if deductions are itemized. This includes expenses for the decedent as well as for the decedent's spouse and dependents.

Qualified medical expenses are not deductible if paid with a tax-free distribution from an Archer MSA.

For information on certain medical expenses that were not paid before death, see Decedent in chapter 23.

Unrecovered investment in pension.   If the decedent was receiving a pension or annuity (with an annuity starting date after 1986) and died without a surviving annuitant, you can take a deduction on the decedent's final return for the amount of the decedent's investment in the pension or annuity contract that remained unrecovered at death. The deduction is a miscellaneous itemized deduction that is not subject to the 2% limit on adjusted gross income. See chapter 30.

Deduction for Losses

A decedent's net operating loss deduction from a prior year and any capital losses (including capital loss carryovers) can be deducted only on the decedent's final income tax return. A net operating loss on the decedent's final income tax return can be carried back to prior years (see Publication 536, Net Operating Losses (NOLs) for Individuals, Estates, and Trusts). You cannot deduct any unused net operating loss or capital loss on the estate's income tax return.

Credits

Any of the tax credits discussed in this publication also apply to the final return if the decedent was eligible for the credits at the time of death. These credits are discussed in chapters 33 through 38.

Tax withheld and estimated payments.   There may have been income tax withheld from the decedent's pay, pensions, or annuities before death, and the decedent may have paid estimated income tax. To get credit for these tax payments, you must claim them on the decedent's final return. For more information, see Credit for Withholding and Estimated Tax in chapter 5.

Tax Effect on Others

This section contains information about the effect of an individual's death on the income tax liability of the survivors (including the widow or widower and any beneficiaries) and the estate. A survivor should coordinate the filing of his or her own tax return with the personal representative handling the decedent's estate. The personal representative can coordinate filing status, exemptions, income, and deductions so that the decedent's final return and the income tax returns of the survivors and the estate are all filed correctly.

Gifts and inheritances.   Property received as a gift, bequest, or inheritance is not included in your income. However, if property you receive in this manner later produces income, such as interest, dividends, or rent, that income is taxable to you. If the gift, bequest, or inheritance you receive is the income from property, that income is taxable to you.

If you inherited the right to receive income in respect of the decedent, see Income in Respect of the Decedent, later.

Joint return by surviving spouse.   A surviving spouse can file a joint return for the year of death and may qualify for special tax rates for the following 2 years. For more information, see Qualifying Widow(er) With Dependent Child in chapter 2.

Decedent as your dependent.   If the decedent qualified as your dependent for the part of the year before death, you can claim the exemption for the dependent on your tax return, regardless of when death occurred during the year.

If the decedent was your qualifying child, you may be able to claim the child tax credit. See chapter 35.

Income in Respect of the Decedent

All income that the decedent would have received had death not occurred and that was not properly includible on the final return, discussed earlier, is income in respect of the decedent.

If the decedent is a specified terrorist victim (see Publication 3920, Tax Relief for Victims of Terrorist Attacks), any income received after the date of death and before the end of the decedent's tax year (determined without regard to death) is excluded from the recipient's gross income. This exclusion does not apply to certain income.

How To Report

Income in respect of a decedent must be included in the income of one of the following.

• The decedent's estate, if the estate receives it.
• The beneficiary, if the right to income is passed directly to the beneficiary and the beneficiary receives it.
• Any person to whom the estate properly distributes the right to receive it.

If you have to include income in respect of the decedent in your gross income, you may be able to claim a deduction for the estate tax paid on that income. For more information, see Estate Tax Deduction, later.

Example 1.   Frank Johnson owned and operated an apple orchard. He used the cash method of accounting. He sold and delivered 1,000 bushels of apples to a canning factory for $2,000, but did not receive payment before his death. The proceeds from the sale are income in respect of the decedent. When the estate was settled, payment had not been made and the estate transferred the right to the payment to his widow. When Frank's widow collects the $2,000, she must include that amount in her return. It is not to be reported on the final return of the decedent or on the return of the estate.

Example 2.   Assume the same facts as in Example 1, except that Frank used an accrual method of accounting. The amount accrued from the sale of the apples would be included on his final return. Neither the estate nor the widow will realize income in respect of the decedent when the money is later paid.

Example 3.   Cathy O'Neil was entitled to a large salary payment at the date of her death. The amount was to be paid in five annual installments. The estate, after collecting two installments, distributed the right to the remaining installments to you, the beneficiary. The payments are income in respect of the decedent. None of the payments were includible in Cathy's final return. The estate must include in its income the two installments it received, and you must include in your income each of the three installments as you receive them.

Transferring your right to income.   If you transfer your right to income in respect of a decedent, you must include in your income the greater of:

• The amount you receive for the right, or
• The fair market value of the right at the time of the transfer.

Fair market value (FMV).   FMV is the price at which the property would change hands between a buyer and a seller, neither having to buy or sell, and both having reasonable knowledge of all necessary facts.

Giving your right to income as a gift.   If you give your right to receive income in respect of a decedent as a gift, you must include in your income the fair market value of the right at the time you make the gift.

Type of income.   The character or type of income that you receive in respect of a decedent is the same as it would be to the decedent if he or she were alive. If the income would have been a capital gain to the decedent, it will be a capital gain to you.

Interest accrued on savings certificates.   The interest accrued on savings certificates (redeemable after death without forfeiture of interest) that is for the period from the date of the last interest payment to the date of the decedent's death, but not received as of that date, is income in respect of the decedent. Interest for a period after the decedent's death that becomes payable on the certificates after death is not income in respect of the decedent, but is taxable income includible in the income of the respective recipients.

Installment obligations.   If the decedent had sold property using the installment method and you have the right to collect the payments, use the same gross profit percentage the decedent would have used to figure the part of each payment that represents profit. Include in your income the same profit the decedent would have included had death not occurred. For more information on installment sales, see Publication 537, Installment Sales.

If you dispose of an installment obligation acquired from a decedent (other than by transfer to the obligor), the rules explained in Publication 537 for figuring gain or loss on the disposition apply to you.

Inherited IRAs.   If a beneficiary receives a lump-sum distribution from a traditional IRA he or she inherited, all or some of it may be taxable. The distribution is taxable in the year received as income in respect of a decedent up to the decedent's taxable balance. This is the decedent's balance at the time of death, including unrealized appreciation and income accrued to date of death, minus any basis (nondeductible contributions). Amounts distributed that are more than the decedent's entire IRA balance (including taxable and nontaxable amounts) at the time of death are the income of the beneficiary.

If the beneficiary of a traditional IRA is the decedent's surviving spouse who properly rolls over the distribution into another traditional IRA or into a Roth IRA, the distribution is not currently taxed. A surviving spouse can also roll over tax free the taxable part of the distribution into a qualified plan, section 403(b) annuity, or section 457 plan.

Example 1.   At the time of his death, Greg owned a traditional IRA. All of the contributions by Greg to the IRA had been deductible contributions. Greg's nephew, Mark, was the sole beneficiary of the IRA. The entire balance of the IRA, including income accruing before and after Greg's death, was distributed to Mark in a lump sum. Mark must include the total amount received in his income. The portion of the lump-sum distribution that equals the amount of the balance in the IRA at Greg's death, including the income earned before death, is income in respect of the decedent. Mark may take a deduction for any federal estate taxes that were paid on that portion.

Example 2.   Assume the same facts as in Example 1, except that some of Greg's contributions to the IRA had been nondeductible contributions. To determine the amount to include in income, Mark must subtract the total nondeductible contributions made by Greg from the total amount received (including the income that was earned in the IRA both before and after Greg's death). Income in respect of the decedent is the total amount included in income less the income earned after Greg's death.

For more information on inherited IRAs, see Publication 590, Individual Retirement Arrangements (IRAs).

Roth IRAs.   Qualified distributions from a Roth IRA are not subject to tax. A distribution made to a beneficiary or to the Roth IRA owner's estate on or after the date of death is a qualified distribution if it is made after the 5-year tax period beginning with the first tax year in which a contribution was made to any Roth IRA of the owner.

A distribution cannot be a qualified distribution unless it is made after 2002.

Generally, the entire interest in the Roth IRA must be distributed by the end of the fifth calendar year after the year of the owner's death unless the interest is payable to a designated beneficiary over his or her life or life expectancy. If paid as an annuity, the distributions must begin before the end of the calendar year following the year of death. If the sole beneficiary is the decedent's spouse, the spouse can delay the distributions until the decedent would have reached age 70½ or can treat the Roth IRA as his or her own Roth IRA.

Part of any distribution to a beneficiary that is not a qualified distribution may be includible in the beneficiary's income. Generally, the part includible is the earnings in the Roth IRA. Earnings attributable to the period ending with the decedent's date of death are income in respect of the decedent. Additional earnings are the income of the beneficiary.

For more information on Roth IRAs, see Publication 590.

Coverdell education savings account (ESA).   Generally, the balance in a Coverdell ESA must be distributed within 30 days after the individual for whom the account was established reaches age 30 or dies, whichever is earlier. The treatment of the Coverdell ESA at the death of an individual under age 30 depends on who acquires the interest in the account. If the decedent's estate acquires the interest, see the discussion under How To Report Certain Income, earlier.

The age 30 limit does not apply if the individual for whom the account was established, or the beneficiary that acquires the account, is an individual with special needs. This includes an individual who because of a physical, mental, or emotional condition (including a learning disability) requires additional time to complete his or her education.

If the decedent's spouse or other family member is the designated beneficiary of the decedent's account, the Coverdell ESA becomes that person's Coverdell ESA. It is subject to the rules discussed in Publication 970.

Any other beneficiary (including a spouse or family member who is not the designated beneficiary) must include in income the earnings portion of the distribution. Any balance remaining at the close of the 30-day period is deemed to be distributed at that time. The amount included in income is reduced by any qualified education expenses of the decedent that are paid by the beneficiary within 1 year after the decedent's date of death. An estate tax deduction, discussed later, applies to the amount included in income by a beneficiary other than the decedent's spouse or family member.

Archer MSA.   The treatment of an Archer MSA or a Medicare+Choice MSA, at the death of the account holder, depends on who acquires the interest in the account. If the decedent's estate acquires the interest, see the earlier discussion under How To Report Certain Income.

If the decedent's spouse is the designated beneficiary of the account, the account becomes that spouse's Archer MSA. It is subject to the rules discussed in Publication 969.

Any other beneficiary (including a spouse that is not the designated beneficiary) must include in income the fair market value of the assets in the account on the decedent's date of death. This amount must be reported for the beneficiary's tax year that includes the decedent's date of death. The amount included in income is reduced by any qualified medical expenses for the decedent that are paid by the beneficiary within 1 year after the decedent's date of death. An estate tax deduction, discussed later, applies to the amount included in income by a beneficiary other than the decedent's spouse.

Other income.   For examples of other income situations concerning decedents, see Specific Types of Income in Respect of a Decedent in Publication 559.

Deductions in Respect of the Decedent

Items such as business expenses, income-producing expenses, interest, and taxes, for which the decedent was liable but that are not properly allowable as deductions on the decedent's final income tax return will be allowed as a deduction to one of the following when paid.

• The estate.
• The person who acquired an interest in the decedent's property (subject to such obligations) because of the decedent's death, if the estate was not liable for the obligation.

Estate Tax Deduction

Income that a decedent had a right to receive is included in the decedent's gross estate and is subject to estate tax. This income in respect of a decedent is also taxed when received by the recipient (estate or beneficiary). However, an income tax deduction is allowed to the recipient for the estate tax paid on the income.

The deduction for estate tax can be claimed only for the same tax year in which the income in respect of the decedent must be included in the recipient's income. (This also is true for income in respect of a prior decedent.)

You can claim the deduction only as a miscellaneous itemized deduction on Schedule A (Form 1040). This deduction is not subject to the 2% limit on miscellaneous itemized deductions as discussed in chapter 30.

If the income in respect of the decedent is capital gain income, you must reduce the gain but not below zero, by any deduction for estate tax paid on such gain. This applies in figuring the following.

• The maximum tax on net capital gain.
• The 50% exclusion for gain on small business stock.
• The limitation on net capital losses.

For more information, see Estate Tax Deduction in Publication 559.

---

Previous| First | Next

Publication 17 | 2002 Tax Year Archives | Tax Help Archives | Home