When a life is cut short by death, many things will usually remain unresolved or in progress. When these things are financial in nature, they can create unexpected complications in filing income taxes for the deceased taxpayer, their estate, and their heirs.
One such complication is known as income in respect of a decedent. What does this mean? Who claims such income and how? And how can you minimize the tax impact of it? Here's what every heir should know.
What Is Income In Respect Of A Decedent?
Basically, income in respect of a decedent (IRD) is income that the person had a right to before they passed — but which was not included in their final tax return. It does not include income earned after their death.
One of the most common forms of IRD is compensation from their employer. Perhaps, for instance, the person earned a commission that had not been calculated and paid until after the final income tax return was filed. They — not the estate — had earned the compensation, so it's not automatically part of their estate. But someone must receive this income.
Other types of money that fall into this category include sales and contracts that the person had entered into but not yet completed, installment income, gains on the sale of property, rental income, and interest accrued before their death. You may also have to include the mandatory minimum required distributions from retirement accounts the person was obligated to take.
Who Reports Income In Respect Of A Decedent?
In general, whichever entity receives the funds on behalf of the late taxpayer reports it as part of their income tax return. This could be the spouse, the estate, a family member, or an heir. If an individual received the income, they report this on their Form 1040 in the appropriate tax year.
How Can You Minimize Taxes On IRD?
Unfortunately, this income that was earned by your loved one before their death could increase your own taxes due. So you may need to take proactive steps to minimize the impact. The first step is to ensure you report the IRD correctly and avoid unnecessary taxes.
Then, you may want to do tax planning to reduce your taxable income in the affected year. This includes steps like deferring compensation, harvesting capital losses, boosting deductions, or contributing the IRD to tax-advantaged accounts.
Where Should You Start?
Most taxpayers are unfamiliar with income in respect of a decedent and other final tax issues. Find the help you need by meeting with a qualified tax preparation service in your state today. With their guidance, you'll soon have this obligatory task done and be able to move forward.
Contact a tax preparation service for more information.Share