Survivors, Executors, and Administrators, Publication 559 (2007)

Reminders

Throughout this publication, section references are to the Internal Revenue Code unless otherwise noted.

Estate tax return. Generally, if the decedent died during 2007, an estate tax return (Form 706) must be filed if the gross estate is more than $2,000,000.

Estate tax repeal. The estate tax is repealed for decedents dying after 2009 and before 2011.

Consistent treatment of estate and trust items. Beneficiaries must generally treat estate items the same way on their individual returns as they are treated on the estate's return.

Individual taxpayer identification number (ITIN). The IRS will issue an ITIN to a nonresident or resident alien who does not have and is not eligible to get a social security number (SSN). To apply for an ITIN, file Form W-7, Application for IRS Individual Taxpayer Identification Number, with the IRS. It usually takes 4 to 6 weeks to get an ITIN. An ITIN is for tax use only. It does not entitle the holder to social security benefits or change the holder's employment or immigration status under U.S. law.

Requests for extension to file Form 1041. You can request an automatic 6-month extension of time to file Form 1041, U.S. Income Tax Return for Estates and Trusts by filing Form 7004, Application for Automatic 6-Month Extension of Time To File Certain Business Income Tax, Information, and Other Returns.

Introduction

This publication is designed to help those in charge of the property (estate) of an individual who has died (decedent). It shows them how to complete and file federal income tax returns and points out their responsibility to pay any taxes due.

A comprehensive example, using tax forms, is included near the end of this publication. Also included at the end of this publication are the following items.

A checklist of the forms you may need and their due dates.
A worksheet to reconcile amounts reported in the decedent's name on information Forms W-2, 1099-INT, 1099-DIV, etc. The worksheet will help you correctly determine the income to report on the decedent's final return and on the return for either the estate or a beneficiary.

Useful Items - You may want to see:

Publication

Form (and Instructions)

1040
U.S. Individual Income Tax Return
1041
U.S. Income Tax Return for Estates and Trusts
706
United States Estate (and Generation-Skipping Transfer) Tax Return
1310
Statement of Person Claiming Refund Due a Deceased Taxpayer

Personal Representative

A personal representative of an estate is an executor, administrator, or anyone who is in charge of the decedent's property. Generally, an executor (or executrix) is named in a decedent's will to administer the estate and distribute properties as the decedent has directed. An administrator (or administratrix) is usually appointed by the court if no will exists, if no executor was named in the will, or if the named executor cannot or will not serve.

In general, an executor and an administrator perform the same duties and have the same responsibilities.

For estate tax purposes, if there is no executor or administrator appointed, qualified, and acting within the United States, the term executor includes anyone in actual or constructive possession of any property of the decedent. It includes, among others, the decedent's agents and representatives; safe-deposit companies, warehouse companies, and other custodians of property in this country; brokers holding securities of the decedent as collateral; and the debtors of the decedent who are in this country.

A personal representative for a decedent's estate can be an executor, administrator, or anyone in charge of the decedent's property, so the term personal representative will be used throughout this publication.

Duties

The primary duties of a personal representative are to collect all the decedent's assets, pay the creditors, and distribute the remaining assets to the heirs or other beneficiaries.

The personal representative also must perform the following duties.

Apply for an employer identification number (EIN) for the estate.
File any income tax return and the estate tax return when due.
Pay the tax determined up to the date of discharge from duties.

Other duties of the personal representative in federal tax matters are discussed in other sections of this publication. If any beneficiary is a nonresident alien, see Publication 515, Withholding of Tax on Nonresident Aliens and Foreign Entities, for information on the personal representative's duties as a withholding agent.

Penalty

There is a penalty for failure to file a tax return when due unless the failure is due to reasonable cause. Reliance on an agent (attorney, accountant, etc.) is not reasonable cause for late filing. It is the personal representative's duty to file the returns for the decedent and the estate when due.

Identification number

The first action you should take if you are the personal representative for the decedent is to apply for an EIN for the estate. You should apply for this number as soon as possible because you need to enter it on returns, statements, and other documents that you file concerning the estate. You also must give the number to payers of interest and dividends and other payers who must file a return concerning the estate. You can get an EIN by applying online at www.irs.gov/businesses or by calling 1-800-829-4933, Monday through Friday from 7 a.m. to 10 p.m. (local time). You can also apply using Form SS-4, Application for Employer Identification Number. Generally, if you apply by mail, it takes about 4 weeks to get your EIN. See the form instructions for other ways to apply. Payers of interest and dividends report amounts on Forms 1099 using the identification number of the person to whom the account is payable. After a decedent's death, the Forms 1099 must reflect the identification number of the estate or beneficiary to whom the amounts are payable. As the personal representative handling the estate, you must furnish this identification number to the payer. For example, if interest is payable to the estate, the estate's EIN number must be provided to the payer and used to report the interest on Form 1099-INT, Interest Income. If the interest is payable to a surviving joint owner, the survivor's identification number must be provided to the payer and used to report the interest. The deceased individual's identifying number must not be used to file an individual tax return after the decedent's final tax return. It also must not be used to make estimated tax payments for a tax year after the year of death.

Penalty

If you do not include the EIN or the taxpayer identification number of another person where it is required on a return, statement, or other document, you are liable for a penalty for each failure, unless you can show reasonable cause. You also are liable for a penalty if you do not give the taxpayer identification number of another person when required on a return, statement, or other document.

Notice of fiduciary relationship

The term fiduciary means any person acting for another person. It applies to persons who have positions of trust on behalf of others. A personal representative for a decedent's estate is a fiduciary. If you are appointed to act in any fiduciary capacity for another, you must file a written notice with the IRS stating this. Form 56, Notice Concerning Fiduciary Relationship, can be used for this purpose. The instructions and other requirements are given on the back of the form. You should file the written notice (or Form 56) as soon as all of the necessary information (including the EIN) is available. It notifies the IRS that, as the fiduciary, you are assuming the powers, rights, duties, and privileges of the decedent, and allows the IRS to mail to you all tax notices concerning the person (or estate) you represent. The notice remains in effect until you notify the appropriate IRS office that your relationship to the estate has terminated.

Termination notice

When you are relieved of your responsibilities as personal representative, you must advise the IRS office where you filed the written notice (or Form 56) either that the estate has been terminated or that your successor has been appointed. Use Form 56 for the termination notice by completing the appropriate part on the form. If another person has been appointed to succeed you as the personal representative, you should give the name and address of your successor. Request for prompt assessment (charge) of tax. The IRS ordinarily has 3 years from the date an income tax return is filed, or its due date, whichever is later, to charge any additional tax that is due. However, as a personal representative, you may request a prompt assessment of tax after the return has been filed. This reduces the time for making the assessment to 18 months from the date the written request for prompt assessment was received. This request can be made for any income tax return of the decedent and for the income tax return of the decedent's estate. This may permit a quicker settlement of the tax liability of the estate and an earlier final distribution of the assets to the beneficiaries.

Form 4810

Form 4810, Request for Prompt Assessment Under Internal Revenue Code Section 6501(d), can be used for making this request. It must be filed separately from any other document. The request should be filed with the IRS office where the return was filed. If Form 4810 is not used, you must clearly indicate that you are making a request for prompt assessment under section 6501(d). You must identify the type of tax and the tax period for which the prompt assessment is requested. As the personal representative for the decedent's estate, you are responsible for any additional taxes that may be due. You can request prompt assessment of any of the decedent's taxes (other than federal estate taxes) for any years for which the statutory period for assessment is open. This applies even though the returns were filed before the decedent's death.

Failure to report income

If you or the decedent failed to report substantial amounts of gross income (more than 25% of the gross income reported on the return) or filed a false or fraudulent return, your request for prompt assessment will not shorten the period during which the IRS may assess the additional tax. However, such a request may relieve you of personal liability for the tax if you did not have knowledge of the unpaid tax.

Request for discharge from personal liability for tax

An executor can make a written request for discharge from personal liability for a decedent's income and gift taxes. The request must be made after the returns for those taxes are filed. It must clearly indicate that the request is for discharge from personal liability under section 6905 of the Internal Revenue Code. For this purpose, an executor is an executor or administrator that is appointed, qualified, and acting within the United States. Within 9 months after receipt of the request, the IRS will notify the executor of the amount of taxes due. If this amount is paid, the executor will be discharged from personal liability for any future deficiencies. If the IRS has not notified the executor, he or she will be discharged from personal liability at the end of the 9-month period. Even if the executor is discharged from personal liability, the IRS will still be able to assess tax deficiencies against the executor to the extent that he or she still has any of the decedent's property.

Insolvent estate

Generally, if a decedent's estate is insufficient to pay all the decedent's debts, the debts due the United States must be paid first. Both the decedent's federal income tax liabilities at the time of death and the estate's income tax liability are debts due the United States. The personal representative of an insolvent estate is personally responsible for any tax liability of the decedent or of the estate if he or she had notice of such tax obligations or had failed to exercise due care in determining if such obligations existed before distribution of the estate's assets and before being discharged from duties. The extent of such personal responsibility is the amount of any other payments made before paying the debts due the United States, except where such other debt paid has priority over the debts due the United States. The income tax liabilities need not be formally assessed for the personal representative to be liable if he or she was aware or should have been aware of their existence.

Fees Received by Personal Representatives

All personal representatives must include in their gross income fees paid to them from an estate. If paid to a professional executor or administrator, self-employment tax also applies to such fees. For a nonprofessional executor or administrator (a person serving in such capacity in an isolated instance, such as a friend or relative of the decedent), self-employment tax only applies if a trade or business is included in the estate's assets, the executor actively participates in the business, and the fees are related to operation of the business.

Final Return for Decedent

The personal representative (defined earlier) must file the final income tax return (Form 1040) of the decedent for the year of death and any returns not filed for preceding years. A surviving spouse, under certain circumstances, may have to file the returns for the decedent. See Joint Return, later.

Return for preceding year

If an individual died after the close of the tax year, but before the return for that year was filed, the return for the year just closed will not be the final return. The return for that year will be a regular return and the personal representative must file it.

Example —

Samantha Smith died on March 21, 2007, before filing her 2006 tax return. Her personal representative must file her 2006 return by April 16, 2007. Her final tax return is due April 15, 2008.

Filing Requirements

The gross income, age, and filing status of a decedent generally determine whether a return must be filed. Gross income usually is all income received by an individual in the form of money, goods, property, and services that is not tax-exempt. It includes gross receipts from self-employment, but if the business involves manufacturing, merchandising, or mining, subtract any cost of goods sold. In general, filing status depends on whether the decedent was considered single or married at the time of death. See the income tax return instructions or Publication 501, Exemptions, Standard Deduction, and Filing Information.

Refund

A return should be filed to obtain a refund if tax was withheld from salaries, wages, pensions, or annuities, or if estimated tax was paid, even if a return is not required to be filed. Also, the decedent may be entitled to other credits that result in a refund. These advance payments of tax and credits are discussed later under Credits, Other Taxes, and Payments.

Form 1310

Generally, a person who is filing a return for a decedent and claiming a refund must file Form 1310 with the return. However, if the person claiming the refund is a surviving spouse filing a joint return with the decedent, or a court-appointed or certified personal representative filing an original return for the decedent, Form 1310 is not needed. The personal representative must attach to the return a copy of the court certificate showing that he or she was appointed the personal representative. If the personal representative is filing a claim for refund on Form 1040X, Amended U.S. Individual Income Tax Return, or Form 843, Claim for Refund and Request for Abatement, and the court certificate has already been filed with the IRS, attach Form 1310 and write “Certificate Previously Filed” at the bottom of the form.

Example —

Mr. Green died before filing his tax return. You were appointed the personal representative for Mr. Green's estate, and you file his Form 1040 showing a refund due. You do not need Form 1310 to claim the refund if you attach a copy of the court certificate showing you were appointed the personal representative.

If you are a surviving spouse and you receive a tax refund check in both your name and your deceased spouse's name, you can have the check reissued in your name alone. Return the joint-name check and a completed Form 1310 to your local IRS office or the service center where you mailed your return. A new check will be issued in your name and mailed to you.

Death certificate

When filing the decedent's final income tax return, do not attach the death certificate or other proof of death to the final return. Instead, keep it for your records and provide it if requested.

Nonresident Alien

If the decedent was a nonresident alien who would have had to file Form 1040NR, U.S. Nonresident Alien Income Tax Return, you must file that form for the decedent's final tax year. See the instructions for Form 1040NR for the filing requirements, due date, and where to file.

Joint Return

Generally, the personal representative and the surviving spouse can file a joint return for the decedent and the surviving spouse. However, the surviving spouse alone can file the joint return if no personal representative has been appointed before the due date for filing the final joint return for the year of death. This also applies to the return for the preceding year if the decedent died after the close of the preceding tax year and before filing the return for that year. The income of the decedent that was includible on his or her return for the year up to the date of death (see Income To Include, later) and the income of the surviving spouse for the entire year must be included in the final joint return.

A final joint return with the decedent cannot be filed if the surviving spouse remarried before the end of the year of the decedent's death. The filing status of the decedent in this instance is married filing a separate return.

For information about tax benefits to which a surviving spouse may be entitled, see Tax Benefits for Survivors, later, under Other Tax Information.

Personal representative may revoke joint return election

A court-appointed personal representative may revoke an election to file a joint return that was previously made by the surviving spouse alone. This is done by filing a separate return for the decedent within one year from the due date of the return (including any extensions). The joint return made by the surviving spouse will then be regarded as the separate return of that spouse by excluding the decedent's items and refiguring the tax liability.

Relief from joint liability

In some cases, one spouse may be relieved of joint liability for tax, interest, and penalties on a joint return for items of the other spouse that were incorrectly reported on the joint return. If the decedent qualified for this relief while alive, the personal representative can pursue an existing request, or file a request, for relief from joint liability. For information on requesting this relief, see Publication 971, Innocent Spouse Relief.

Income To Include

The decedent's income includible on the final return is generally determined as if the person were still alive except that the taxable period is usually shorter because it ends on the date of death. The method of accounting regularly used by the decedent before death also determines the income includible on the final return. This section explains how some types of income are reported on the final return.

For more information about accounting methods, see Publication 538, Accounting Periods and Methods.

Under the Cash Method

If the decedent accounted for income under the cash method, only those items actually or constructively received before death are included in the final return.

Constructive receipt of income

Interest from coupons on the decedent's bonds was constructively received by the decedent if the coupons matured in the decedent's final tax year, but had not been cashed. Include the interest in the final return. Generally, a dividend was constructively received if it was available for use by the decedent without restriction. If the corporation customarily mailed its dividend checks, the dividend was includible when received. If the individual died between the time the dividend was declared and the time it was received in the mail, the decedent did not constructively receive it before death. Do not include the dividend in the final return.

Under an Accrual Method

Generally, under an accrual method of accounting, income is reported when earned.

If the decedent used an accrual method, only the income items normally accrued before death are included in the final return.

Partnership Income

The death of a partner closes the partnership's tax year for that partner. Generally, it does not close the partnership's tax year for the remaining partners. The decedent's distributive share of partnership items must be figured as if the partnership's tax year ended on the date the partner died. To avoid an interim closing of the partnership books, the partners can agree to estimate the decedent's distributive share by prorating the amounts the partner would have included for the entire partnership tax year.

On the decedent's final return, include the decedent's distributive share of partnership items for the following periods.

The partnership's tax year that ended within or with the decedent's final tax year (the year ending on the date of death).
The period, if any, from the end of the partnership's tax year in (1) to the decedent's date of death.

Example —

Mary Smith was a partner in XYZ partnership and reported her income on a tax year ending December 31. The partnership uses a tax year ending June 30. Mary died August 31, 2007, and her estate established its tax year through August 31.

The distributive share of partnership items based on the decedent's partnership interest is reported as follows.

Final Return for the Decedent—January 1 through August 31, 2007, includes XYZ partnership items from (a) the partnership tax year ending June 30, 2007, and (b) the partnership tax year beginning July 1, 2007, and ending August 31, 2007 (the date of death).
Income Tax Return of the Estate—September 1, 2007, through August 31, 2008, includes XYZ partnership items for the period September 1, 2007, through June 30, 2008.

S Corporation Income

If the decedent was a shareholder in an S corporation, include on the final return the decedent's share of the S corporation's items of income, loss, deduction, and credit for the following periods.

The corporation's tax year that ended within or with the decedent's final tax year (the year ending on the date of death).
The period, if any, from the end of the corporation's tax year in (1) to the decedent's date of death.

Self-Employment Income

Include self-employment income actually or constructively received or accrued, depending on the decedent's accounting method. For self-employment tax purposes only, the decedent's self-employment income will include the decedent's distributive share of a partnership's income or loss through the end of the month in which death occurred. For this purpose, the partnership's income or loss is considered to be earned ratably over the partnership's tax year.

Community Income

If the decedent was married and domiciled in a community property state, half of the income received and half of the expenses paid during the decedent's tax year by either the decedent or spouse may be considered to be the income and expenses of the other. For more information, see Publication 555, Community Property.

Interest and Dividend Income (Forms 1099)

A Form 1099 should be received for the decedent reporting interest and dividends earned before death and included on the decedent's final return. A separate Form 1099 should show the interest and dividends earned after the date of the decedent's death and paid to the estate or other recipient that must include those amounts on its return. You can request corrected Forms 1099 if these forms do not properly reflect the right recipient or amounts.

For example, a Form 1099-INT reporting interest payable to the decedent may include income that should be reported on the final income tax return of the decedent, as well as income that the estate or other recipient should report, either as income earned after death or as income in respect of the decedent (discussed later). For income earned after death, you should ask the payer for a Form 1099 that properly identifies the recipient (by name and identification number) and the proper amount. If that is not possible, or if the form includes an amount that represents income in respect of the decedent, report the interest as shown next under How to report.

See U.S. savings bonds acquired from decedent under Income in Respect of the Decedent, later, for information on savings bond interest that may have to be reported on the final return.

How to report

If you are preparing the decedent's final return and you have received a Form 1099-INT for the decedent that includes amounts belonging to the decedent and to another recipient (the decedent's estate or another beneficiary), report the total interest shown on Form 1099-INT on Schedule 1 (Form 1040A) or on Schedule B (Form 1040). Next, enter a subtotal of the interest shown on Forms 1099, and the interest reportable from other sources for which you did not receive Forms 1099. Then, show any interest (including any interest you receive as a nominee) belonging to another recipient separately and subtract it from the subtotal. Identify the amount of this adjustment as “Nominee Distribution” or other appropriate designation. Report dividend income for which you received a Form 1099-DIV, Dividends and Distributions, on the appropriate schedule using the same procedure.
Note. If the decedent received amounts as a nominee, you must give the actual owner a Form 1099, unless the owner is the decedent's spouse. See General Instructions for Forms 1099, 1098, 5498, and W-2G for more information on filing Forms 1099.

HSA, Archer MSA, or a Medicare Advantage MSA

The treatment of a health savings account (HSA), an Archer MSA, or a Medicare Advantage 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, the fair market value (FMV) of the assets in the account on the date of death is included in income on the decedent's final return. The estate tax deduction, discussed later, does not apply to this amount.

If a beneficiary acquires the interest, see the discussion under Income in Respect of the Decedent, later. For other information on HSAs, Archer MSAs, or Medicare Advantage MSAs, see Publication 969, Health Savings Account and Other Tax-Favored Health Plans.

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, the earnings on the account must be included on the final income tax return of the decedent. The estate tax deduction, discussed later, does not apply to this amount. If a beneficiary acquires the interest, see the discussion under Income in Respect of the Decedent, later.

The age 30 limitation 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.

For more information on Coverdell ESAs, see Publication 970, Tax Benefits for Education.

Accelerated Death Benefits

Accelerated death benefits are amounts received under a life insurance contract before the death of the insured individual. These benefits also include amounts received on the sale or assignment of the contract to a viatical settlement provider.

Generally, if the decedent received accelerated death benefits either on his or her own life or on the life of another person, those benefits are not included in the decedent's income. This exclusion applies only if the insured was a terminally or chronically ill individual. For more information, see the discussion under Gifts, Insurance, and Inheritances under Other Tax Information, later.

Exemptions and Deductions

Generally, the rules for exemptions and deductions 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. This section contains a detailed discussion of medical expenses because, under certain conditions, the tax treatment can be different for the medical expenses of the decedent. See Medical Expenses, later.

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 the income tax return instructions or Publication 501.

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 HSA or an Archer MSA. Election for decedent's expenses. Medical expenses that were not paid before death are liabilities of the estate and are shown on the federal estate tax return (Form 706). However, if medical expenses for the decedent are paid out of the estate during the 1-year period beginning with the day after death, you can elect to treat all or part of the expenses as paid by the decedent at the time they were incurred. If you make the election, you can claim all or part of the expenses on the decedent's income tax return, if deductions are itemized, rather than on the federal estate tax return (Form 706). You can deduct expenses incurred in the year of death on the final income tax return. You should file an amended return (Form 1040X) for medical expenses incurred in an earlier year, unless the statutory period for filing a claim for that year has expired. The amount you can deduct on the income tax return is the amount above 7.5% of adjusted gross income. The amounts not deductible because of this percentage cannot be claimed on the federal estate tax return.

Making the election

You make the election by attaching a statement, in duplicate, to the decedent's income tax return or amended return. The statement must state that you have not claimed the amount as an estate tax deduction, and that the estate waives the right to claim the amount as a deduction. This election applies only to expenses incurred for the decedent, not to expenses incurred to provide medical care for dependents.

Example —

Richard Brown used the cash method of accounting and filed his income tax return on a calendar year basis. Mr. Brown died on June 1, 2007, after incurring $800 in medical expenses. Of that amount, $500 was incurred in 2006 and $300 was incurred in 2007. Richard itemized his deductions when he filed his 2006 income tax return. The personal representative of the estate paid the entire $800 liability in August 2007.

The personal representative may file an amended return (Form 1040X) for 2006 claiming the $500 medical expense as a deduction, subject to the 7.5% limit. The $300 of expenses incurred in 2007 can be deducted on the final income tax return if deductions are itemized, subject to the 7.5% limit. The personal representative must file a statement in duplicate with each return stating that these amounts have not been claimed on the federal estate tax return (Form 706), and waiving the right to claim such a deduction on Form 706 in the future.

Medical expenses not paid by estate

If you paid medical expenses for your deceased spouse or dependent, claim the expenses on your tax return for the year in which you paid them, whether they are paid before or after the decedent's death. If the decedent was a child of divorced or separated parents, the medical expenses can usually be claimed by both the custodial and noncustodial parent to the extent paid by that parent during the year.

Insurance reimbursements

Insurance reimbursements of previously deducted medical expenses due a decedent at the time of death and later received by the decedent's estate are includible in the income tax return of the estate (Form 1041) for the year the reimbursements are received. The reimbursements are also includible in the decedent's gross estate.

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.

At-risk loss limits. Special at-risk rules apply to most activities that are engaged in as a trade or business or for the production of income. These rules limit the deductible loss to the amount for which the individual was considered at risk in the activity. An individual generally will be considered at risk to the extent of the money and the adjusted basis of property that he or she contributed to the activity and certain amounts the individual borrowed for use in the activity. An individual will be considered at risk for amounts borrowed only if he or she was personally liable for the repayment or if the amounts borrowed were secured by property other than that used in the activity. The individual is not considered at risk for borrowed amounts if the lender has an interest in the activity or if the lender is related to a person who has an interest in the activity. For more information, see Publication 925, Passive Activity and At-Risk Rules.

Passive activity rules

A passive activity is any trade or business activity in which the taxpayer does not materially participate. To determine material participation, see Publication 925. Rental activities are passive activities regardless of the taxpayer's participation, unless the taxpayer meets certain eligibility requirements. Individuals, estates, and trusts can offset passive activity losses only against passive activity income. Passive activity losses or credits that are not allowed in one tax year can be carried forward to the next year. If a passive activity interest is transferred because a taxpayer dies, the accumulated unused passive activity losses are allowed as a deduction against the decedent's income in the year of death. Losses are allowed only to the extent they are greater than the excess of the transferee's (recipient of the interest transferred) basis in the property over the decedent's adjusted basis in the property immediately before death. The portion of the losses that is equal to the excess is not allowed as a deduction for any tax year. Use Form 8582, Passive Activity Loss Limitations, to summarize losses and income from passive activities and to figure the amounts allowed. For more information, see Publication 925.

Credits, Other Taxes, and Payments

This section includes brief discussions of some of the tax credits, types of taxes that may be owed, income tax withheld, and estimated tax payments that are reported on the final return of a decedent.

Credits

You can claim on the final income tax return any tax credits that applied to the decedent before death. Some of these credits are discussed next.

Earned income credit

If the decedent was an eligible individual, you can claim the earned income credit on the decedent's final return even though the return covers less than 12 months. If the allowable credit is more than the tax liability for the year, the excess is refunded. For more information, see Publication 596, Earned Income Credit (EIC).

Credit for the elderly or the disabled

This credit is allowable on a decedent's final income tax return if the decedent met both of the following requirements in the year of death. The decedent:

Was a “qualified individual,” and
Had income (adjusted gross income (AGI) and nontaxable social security and pensions) less than certain limits.

For details on qualifying for or figuring the credit, see Publication 524, Credit for the Elderly or the Disabled.

Child tax credit

If the decedent had a qualifying child, you may be able to claim the child tax credit on the decedent's final return even though the return covers less than 12 months. You may be able to claim the additional child tax credit and get a refund if the credit is more than the decedent's liability. For more information, see your form instructions.

Adoption credit

Depending upon when the adoption was finalized, this credit may be taken upon a decedent's final income tax return if the decedent:

Adopted an eligible child and paid qualified adoption expenses or
Has a carryforward of an adoption credit from a prior year.

Also, if the decedent is survived by a spouse who meets the filing status of qualifying widow(er), unused adoption credit may be carried forward and used following the death of the decedent. See Form 8839, Qualified Adoption Expenses, and its Instructions for more details.

General business tax credit

The general business credit available to a taxpayer is limited. Any credit arising in a tax year beginning before 1998 that has not been used up can be carried forward for up to 15 years. Any unused credit arising in a tax year beginning after 1997 has a 1-year carryback and a 20-year carryforward period. After the carryforward period, a deduction may be allowed for any unused business credit. If the taxpayer dies before the end of the carryforward period, the deduction generally is allowed in the year of death. For more information on the general business credit, see Publication 334, Tax Guide for Small Business.

Other Taxes

Taxes other than income tax that may be owed on the final return of a decedent include self-employment tax and alternative minimum tax, which are reported on Form 1040.

Self-employment tax. Self-employment tax may be owed on the final return if either of the following applied to the decedent in the year of death.

Net earnings from self-employment (excluding income described in (2)) were $400 or more.
Wages from services performed as a church employee were $108.28 or more.

Alternative minimum tax (AMT). The tax laws give special treatment to some kinds of income and allow special deductions and credits for some kinds of expenses. The alternative minimum tax (AMT) was enacted so that certain taxpayers who benefit from these laws still pay at least a minimum amount of tax. In general, the AMT is the excess of the tentative minimum tax over the regular tax shown on the return.

Form 6251

Use Form 6251, Alternative Minimum Tax—Individuals, to determine if this tax applies to the decedent. See the form instructions for information on when you must attach the form to the tax return.

Form 8801

If the decedent paid AMT in a previous year or had a credit carryforward, the decedent may be eligible for a minimum tax credit. See Form 8801, Credit for Prior Year Minimum Tax—Individuals, Estates, and Trusts.

Payments of Tax

The income tax withheld from the decedent's salary, wages, pensions, or annuities, and the amount paid as estimated tax, for example, are credits (advance payments of tax) that you must claim on the final return.

Name, Address, and Signature

The word “DECEASED,” the decedent's name, and the date of death should be written across the top of the tax return. If filing a joint return, you should write the name and address of the decedent and the surviving spouse in the name and address space. If a joint return is not being filed, write the decedent's name in the name space and the personal representative's name and address in the remaining space.

Third party designee

You can check the “Yes” box in the Third Party Designee area of the return to authorize the IRS to discuss the return with a friend, family member, or any other person you choose. This allows the IRS to call the person you identified as the designee to answer any questions that may arise during the processing of the return. It also allows the designee to perform certain actions. See the income tax package for details.

Signature

If a personal representative has been appointed, that person must sign the return. If it is a joint return, the surviving spouse must also sign it. If no personal representative has been appointed, the surviving spouse (on a joint return) should sign the return and write in the signature area “Filing as surviving spouse.” If no personal representative has been appointed and if there is no surviving spouse, the person in charge of the decedent's property must file and sign the return as “personal representative.”

Paid preparer

If you pay someone to prepare, assist in preparing, or review the tax return, that person must sign the return and fill in the other blanks in the paid preparer's area of the return. See the income tax package for details.

When and Where To File

The final income tax return is due at the same time the decedent's return would have been due had death not occurred. A final return for a decedent who was a calendar year taxpayer is generally due on April 15 following the year of death, regardless of when during that year death occurred. However, when the due date falls on a Saturday, Sunday, or legal holiday, the return is filed timely if filed by the next business day.

The tax return must be prepared on a form for the year of death regardless of when during the year death occurred.

Generally, you must file the final income tax return of the decedent with the Internal Revenue Service Center for the place where you live. A tax return for a decedent can be electronically filed. A personal representative may also obtain an income tax filing extension on behalf of a decedent.

Tax Forgiveness for Armed Forces Members, Victims of Terrorism, and Astronauts

Income tax liability may be forgiven for a decedent who dies due to service in a combat zone, due to military or terrorist actions, as a result of a terrorist attack, or while serving in the line of duty as an astronaut.

Combat Zone

If a member of the Armed Forces of the United States dies while in active service in a combat zone or from wounds, disease, or injury incurred in a combat zone, the decedent's income tax liability is abated (forgiven) for the entire year in which death occurred and for any prior tax year ending on or after the first day the person served in a combat zone in active service. For this purpose, a qualified hazardous duty area is treated as a combat zone.

If the tax (including interest, additions to the tax, and additional amounts) for these years has been assessed, the assessment will be forgiven. If the tax has been collected (regardless of the date of collection), that tax will be credited or refunded.

Any of the decedent's income tax for tax years before those mentioned above that remains unpaid as of the actual (or presumptive) date of death will not be assessed. If any unpaid tax (including interest, additions to the tax, and additional amounts) has been assessed, this assessment will be forgiven. Also, if any tax was collected after the date of death, that amount will be credited or refunded.

The date of death of a member of the Armed Forces reported as missing in action or as a prisoner of war is the date his or her name is removed from missing status for military pay purposes. This is true even if death actually occurred earlier.

For other tax information for members of the Armed Forces, see Publication 3, Armed Forces' Tax Guide.

Military or Terrorist Actions

The decedent's income tax liability is forgiven if, at death, he or she was a military or civilian employee of the United States who died because of wounds or injury incurred:

While a U.S. employee, and
In a military or terrorist action.

The forgiveness applies to the tax year in which death occurred and for any prior tax year in the period beginning with the year before the year in which the wounds or injury occurred.

Example —

The income tax liability of a civilian employee of the United States who died in 2006 because of wounds incurred while a U.S. employee in a terrorist attack that occurred in 1998 will be forgiven for 2006 and for all prior tax years in the period 1997 through 2005. Refunds are allowed for the tax years for which the period for filing a claim for refund has not ended, as discussed later.

Military or terrorist action defined

A military or terrorist action means the following.

Any terrorist activity that most of the evidence indicates was directed against the United States or any of its allies.
Any military action involving the U.S. Armed Forces and resulting from violence or aggression against the United States or any of its allies, or the threat of such violence or aggression.

Terrorist activity includes criminal offenses intended to coerce, intimidate, or retaliate against the government or civilian population. Military action does not include training exercises. Any multinational force in which the United States is participating is treated as an ally of the United States.

Determining if a terrorist activity or military action has occurred

You may rely on published guidance from the IRS to determine if a particular event is considered a terrorist activity or military action.

Specified Terrorist Victim

The Victims of Terrorism Tax Relief Act of 2001 (the Act) provides tax relief for those injured or killed as a result of terrorist attacks, certain survivors of those killed as a result of terrorist attacks, and others who were affected by terrorist attacks. Under the Act, the federal income tax liability of those killed in the following attacks (specified terrorist victim) is forgiven for certain tax years.

The April 19, 1995, terrorist attack on the Alfred P. Murrah Federal Building (Oklahoma City).
The September 11, 2001, terrorist attacks.
The terrorist attacks involving anthrax occurring after September 10, 2001, and before January 1, 2002.

The Act also exempts from federal income tax the following types of income.

Qualified disaster relief payments made after September 10, 2001, to cover personal, family, living, or funeral expenses incurred because of a terrorist attack.
Certain disability payments received in tax years ending after September 10, 2001 for injuries sustained in a terrorist attack.
Certain death benefits paid by an employer to the survivor of an employee because the employee died as a result of a terrorist attack.
Payments from the September 11th Victim Compensation Fund 2001.

The Act also reduces the estate tax of individuals who die as a result of a terrorist attack. See Publication 3920, Tax Relief for Victims of Terrorist Attacks, for more information.

Astronauts

For astronauts who died in the line of duty after December 31, 2002, legislation extended the tax relief available under The Victims of Terrorism Tax Relief Act of 2001 (the Act). The decedent's income tax liability is forgiven for the tax year in which death occurs, and for the tax year prior to death. For information on death benefit payments and the reduction of federal estate taxes, see Publication 3920. However, the discussions in that publication under Death Benefits and Estate Tax Reduction should be modified for astronauts (for example, by using the date of death of the astronaut rather than September 11, 2001).

For more information on the Act, see Publication 3920.

Claim for Credit or Refund

If any of these tax-forgiveness situations applies to a prior year tax, any tax paid for which the period for filing a claim has not ended will be credited or refunded. If any tax is still due, it will be canceled. The normal period for filing a claim for credit or refund is 3 years after the return was filed or 2 years after the tax was paid, whichever is later.

If death occurred in a combat zone or from wounds, disease, or injury incurred in a combat zone, the period for filing the claim is extended by:

The amount of time served in the combat zone (including any period in which the individual was in missing status), plus
The period of continuous qualified hospitalization for injury from service in the combat zone, if any, plus
The next 180 days.

Qualified hospitalization means any hospitalization outside the United States and any hospitalization in the United States of not more than 5 years.

This extended period for filing the claim also applies to a member of the Armed Forces who was deployed outside the United States in a designated contingency operation.

Filing a claim

Use the following procedures to file a claim.

If a U.S. individual income tax return (Form 1040, 1040A, or 1040EZ) has not been filed, you should make a claim for refund of any withheld income tax or estimated tax payments by filing Form 1040. Form W-2, Wage and Tax Statement, must accompany all returns.
If a U.S. individual income tax return has been filed, you should make a claim for refund by filing Form 1040X. You must file a separate Form 1040X for each year in question.

You must file these returns and claims at the following address for regular mail (U.S. Postal Service). Internal Revenue Service
P.O. Box 4053
Woburn, MA 01888 Identify all returns and claims for refund by writing “Iraq—KIA,” “Enduring Freedom—KIA,” “Kosovo Operation—KIA,” “Desert Storm—KIA,” or “Former Yugoslavia—KIA” in bold letters on the top of page 1 of the return or claim. On Forms 1040 and 1040X, write the same phrase on the line for total tax. If the individual was killed in a terrorist or military action, put “KITA” on the front of the return and on the line for total tax. An attachment should include a computation of the decedent's tax liability and a computation of the amount that is to be forgiven. On joint returns, you must make an allocation of the tax as described later under Joint returns. If you cannot make a proper allocation, you should attach a statement of all income and deductions allocable to each spouse and the IRS will make the proper allocation. You must attach Form 1310 to all returns and claims for refund. However, for exceptions to filing Form 1310, see Form 1310 under Refund, earlier. You must also attach proof of death that includes a statement that the individual was a U.S. employee on the date of injury and on the date of death and died as the result of a military or terrorist action. For military and civilian employees of the Department of Defense, attach DD Form 1300. For other U.S. civilian employees killed in the United States, attach a death certificate and a certification (letter) from the federal employer. For other U.S. civilian employees killed overseas, attach a certification from the Department of State. If you do not have enough tax information to file a timely claim for refund, you can suspend the period for filing a claim by filing Form 1040X. Attach Form 1310, any required documentation currently available, and a statement that you will file an amended claim as soon as you have the required tax information.

Joint returns

If a joint return was filed, only the decedent's part of the income tax liability is eligible for forgiveness. Determine the decedent's tax liability as follows.

Figure the income tax for which the decedent would have been liable if a separate return had been filed.
Figure the income tax for which the spouse would have been liable if a separate return had been filed.
Multiply the joint tax liability by a fraction. The numerator of the fraction is the amount in (1), above. The denominator of the fraction is the total of (1) and (2).

The amount in (3) above is the decedent's tax liability that is eligible for forgiveness.

Filing Reminders

To minimize the time needed to process the decedent's final return and issue any refund, be sure to follow these procedures.

Write “DECEASED,” the decedent's name, and the date of death across the top of the tax return.
If a personal representative has been appointed, the personal representative must sign the return. If it is a joint return, the surviving spouse must also sign it.
If you are the decedent's spouse filing a joint return with the decedent and no personal representative has been appointed, write “Filing as surviving spouse” in the area where you sign the return.
If no personal representative has been appointed and if there is no surviving spouse, the person in charge of the decedent's property must file and sign the return as “personal representative.”
To claim a refund for the decedent, do the following.
1. If you are the decedent's spouse filing a joint return with the decedent, file only the tax return to claim the refund.
2. If you are the personal representative and the return is not a joint return filed with the decedent's surviving spouse, file the return and attach a copy of the certificate that shows your appointment by the court. (A power of attorney or a copy of the decedent's will is not acceptable evidence of your appointment as the personal representative.) If you are filing an amended return, attach Form 1310 and a copy of the certificate of appointment (or, if you have already sent the certificate of appointment to IRS, write “Certificate Previously Filed” at the bottom of Form 1310).
3. If you are not filing a joint return as the surviving spouse and a personal representative has not been appointed, file the return and attach Form 1310.

Other Tax Information

This section contains information about the effect of an individual's death on the income tax liability of the survivors (including widows and widowers), the beneficiaries, and the estate.

Tax Benefits for Survivors

Survivors can qualify for certain benefits when filing their own income tax returns.

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, as explained under Qualifying widows and widowers, later.

Decedent as your dependent

If the decedent qualified as your dependent for a 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 or the earned income credit.

Qualifying widows and widowers

If your spouse died within the 2 tax years preceding the year for which your return is being filed, you may be eligible to claim the filing status of qualifying widow(er) with dependent child and qualify to use the married-filing-jointly tax rates.

Requirements

Generally, you qualify for this special benefit if you meet all of the following requirements.

You were entitled to file a joint return with your spouse for the year of death—whether or not you actually filed jointly.
You did not remarry before the end of the current tax year.
You have a child, stepchild, or foster child who qualifies as your dependent for the tax year.
You provide more than half the cost of maintaining your home, which is the principal residence of that child for the entire year except for temporary absences.

Example —

William Burns' wife died in 2005. Mr. Burns has not remarried and continued throughout 2006 and 2007 to maintain a home for himself and his dependent child. For 2005, he was entitled to file a joint return for himself and his deceased wife. For 2006 and 2007, he qualifies to file as a qualifying widower with dependent child. For later years, he may qualify to file as a head of household.

Figuring your tax

Check the box on line 5 (Form 1040 or 1040A) under filing status on your tax return. Use the Tax Rate Schedule or the column in the Tax Table for Married filing jointly, which gives you the split-income benefits. The last year you can file jointly with, or claim an exemption for, your deceased spouse is the year of death.

Joint return filing rules

If you are the surviving spouse and a personal representative is handling the estate for the decedent, you should coordinate filing your return for the year of death with this personal representative. See Joint Return, earlier under Final Return for Decedent.

Income in Respect of a Decedent

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

If the decedent is a specified terrorist victim (see Specified Terrorist Victim, earlier), 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. For more information, see Publication 3920.

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; or
Any person to whom the estate properly distributes the right to receive it.

If you have to include income in respect of a decedent in your gross income and an estate tax return (Form 706) was filed for the decedent, you may be able to claim a deduction for the estate tax paid on that income. See Estate Tax Deduction, later.

Example —

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 a 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 reported on the final return of the decedent or on the return of the estate.

Example —

Assume the same facts as in Example 1, except that Frank used the 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 would realize income in respect of a decedent when the money is later paid.

Example —

On February 1, George High, a cash method taxpayer, sold his tractor for $3,000, payable March 1 of the same year. His adjusted basis in the tractor was $2,000. Mr. High died on February 15, before receiving payment. The gain to be reported as income in respect of a decedent is the $1,000 difference between the decedent's basis in the property and the sale proceeds. In other words, the income in respect of a decedent is the gain the decedent would have realized had he lived.

Example —

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 a decedent. None of the payments were includible on 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.

Example —

You inherited the right to receive renewal commissions on life insurance sold by your father before his death. You inherited the right from your mother, who acquired it by bequest from your father. Your mother died before she received all the commissions she had the right to receive, so you received the rest. The commissions are income in respect of a decedent. None of these commissions were includible in your father's final return. The commissions received by your mother were included in her income. The commissions you received are not includible in your mother's income, even on her final return. You must include them in your income.

Character of income

The character of the income 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.

Transfer of 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 you transfer.

If you make a gift of such a right, you must include in your income the fair market value of the right at the time of the gift. If the right to income from an installment obligation is transferred, the amount you must include in income is reduced by the basis of the obligation. See Installment obligations, later.

Transfer defined

A transfer for this purpose includes a sale, exchange, or other disposition, the satisfaction of an installment obligation at other than face value, or the cancellation of an installment obligation.

Installment obligations

If the decedent had sold property using the installment method and you collect payments on an installment obligation you acquired from the decedent, use the same gross profit percentage the decedent 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, 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.

Transfer to obligor

A transfer of a right to income, discussed earlier, has occurred if the decedent (seller) had sold property using the installment method and the installment obligation is transferred to the obligor (buyer or person legally obligated to pay the installments). A transfer also occurs if the obligation is canceled either at death or by the estate or person receiving the obligation from the decedent. An obligation that becomes unenforceable is treated as having been canceled. If such a transfer occurs, the amount included in the income of the transferor (the estate or beneficiary) is the greater of the amount received or the fair market value of the installment obligation at the time of transfer, reduced by the basis of the obligation. The basis of the obligation is the decedent's basis, adjusted for all installment payments received after the decedent's death and before the transfer. If the decedent and obligor were related persons, the fair market value of the obligation cannot be less than its face value.

Specific Types of Income in Respect of a Decedent

This section explains and provides examples of some specific types of income in respect of a decedent.

Wages

The entire amount of wages or other employee compensation earned by the decedent but unpaid at the time of death is income in respect of a decedent. The income is not reduced by any amounts withheld by the employer. If the income is $600 or more, the employer should report it in box 3 of Form 1099-MISC and give the recipient a copy of the form or a similar statement. Wages paid as income in respect of a decedent are not subject to federal income tax withholding. However, if paid during the calendar year of death, they are subject to withholding for social security and Medicare taxes. These taxes should be included on the decedent's Form W-2 with the taxes withheld before death. These wages are not included in box 1 of Form W-2. Wages paid as income in respect of a decedent after the year of death generally are not subject to withholding for any federal taxes.

Farm income from crops, crop shares, and livestock

A farmer's growing crops and livestock at the date of death normally would not give rise to income in respect of a decedent or income to be included in the final return. However, when a cash method farmer receives rent in the form of crop shares or livestock and owns the crop shares or livestock at the time of death, the rent is income in respect of a decedent and is reported in the year in which the crop shares or livestock are sold or otherwise disposed of. The same treatment applies to crop shares or livestock the decedent had a right to receive as rent at the time of death for economic activities that occurred before death. If the individual died during a rental period, only the proceeds from the portion of the rental period ending with death are income in respect of a decedent. The proceeds from the portion of the rental period from the day after death to the end of the rental period are income to the estate. Cash rent or crop shares and livestock received as rent and reduced to cash by the decedent are includible in the final return even though the rental period did not end until after death.

Example —

Alonzo Roberts, who used the cash method of accounting, leased part of his farm for a 1-year period beginning March 1. The rental was one-third of the crop, payable in cash when the crop share is sold at the direction of Roberts. Roberts died on June 30 and was alive during 122 days of the rental period. Seven months later, Roberts' personal representative ordered the crop to be sold and was paid $1,500. Of the $1,500, 122/365, or $501, is income in respect of a decedent. The balance of the $1,500 received by the estate, $999, is income to the estate.

Partnership income

If the partner who died had been receiving payments representing a distributive share or guaranteed payment in liquidation of the partner's interest in a partnership, the remaining payments made to the estate or other successor in interest are income in respect of a decedent. The estate or the successor receiving the payments must include them in income when received. Similarly, the estate or other successor in interest receives income in respect of a decedent if amounts are paid by a third person in exchange for the successor's right to the future payments. For a discussion of partnership rules, see Publication 541, Partnerships. U.S. savings bonds acquired from decedent. If series EE or series I U.S. savings bonds that were owned by a cash method individual who had chosen to report the interest each year (or by an accrual method individual) are transferred because of death, the increase in value of the bonds (interest earned) in the year of death up to the date of death must be reported on the decedent's final return. The transferee (estate or beneficiary) reports on its return only the interest earned after the date of death. The redemption values of U.S. savings bonds generally are available from local banks, credit unions, savings and loan institutions, or your nearest Federal Reserve Bank. You also can get information by writing to the following address. Bureau of the Public Debt
P.O. Box 1328
Parkersburg, WV 26106-1328 Or, on the Internet, visit:
www.treasurydirect.gov. If the bonds transferred because of death were owned by a cash method individual who had not chosen to report the interest each year and had purchased the bonds entirely with personal funds, interest earned before death must be reported in one of the following ways.

The person (executor, administrator, etc.) who must file the final income tax return of the decedent can elect to include in it all of the interest earned on the bonds before the decedent's death. The transferee (estate or beneficiary) then includes in its return only the interest earned after the date of death.
If the election in (1), above, was not made, the interest earned to the date of death is income in respect of the decedent and is not included in the decedent's final return. In this case, all of the interest earned before and after the decedent's death is income to the transferee (estate or beneficiary). A transferee who uses the cash method of accounting and who has not chosen to report the interest annually may defer reporting any of it until the bonds are cashed or the date of maturity, whichever is earlier. In the year the interest is reported, the transferee may claim a deduction for any federal estate tax paid that arose because of the part of interest (if any) included in the decedent's estate.

Example —

Your uncle, a cash method taxpayer, died and left you a $1,000 series EE bond. He had bought the bond for $500 and had not chosen to report the increase in value each year. At the date of death, interest of $94 had accrued on the bond, and its value of $594 at date of death was included in your uncle's estate. Your uncle's personal representative did not choose to include the $94 accrued interest in the decedent's final income tax return. You are a cash method taxpayer and do not choose to report the increase in value each year as it is earned. Assuming you cash it when it reaches maturity value of $1,000, you would report $500 interest income (the difference between maturity value of $1,000 and the original cost of $500) in that year. You also are entitled to claim, in that year, a deduction for any federal estate tax resulting from the inclusion in your uncle's estate of the $94 increase in value.

Example —

If, in Example 1, the personal representative had chosen to include the $94 interest earned on the bond before death in the final income tax return of your uncle, you would report $406 ($500 - $94) as interest when you cashed the bond at maturity. This $406 represents the interest earned after your uncle's death and was not included in his estate, so no deduction for federal estate tax is allowable for this amount.

Example —

Your uncle died owning series HH bonds that he acquired in exchange for series EE bonds. You were the beneficiary on these bonds. Your uncle used the cash method of accounting and had not chosen to report the increase in redemption price of the series EE bonds each year as it accrued. Your uncle's personal representative made no election to include any interest earned before death in the decedent's final return. Your income in respect of the decedent is the sum of the unreported increase in value of the series EE bonds, which constituted part of the amount paid for series HH bonds, and the interest, if any, payable on the series HH bonds but not received as of the date of the decedent's death.

Specific dollar amount legacy satisfied by transfer of bonds

If you receive series EE or series I bonds from an estate in satisfaction of a specific dollar amount legacy and the decedent was a cash method taxpayer who did not elect to report interest each year, only the interest earned after you receive the bonds is your income. The interest earned to the date of death plus any further interest earned to the date of distribution is income to (and reportable by) the estate. Cashing U.S. savings bonds. When you cash a U.S. savings bond that you acquired from a decedent, the bank or other payer that redeems it must give you a Form 1099-INT if the interest part of the payment you receive is $10 or more. Your Form 1099-INT should show the difference between the amount received and the cost of the bond. The interest shown on your Form 1099-INT will not be reduced by any interest reported by the decedent before death, or, if elected, by the personal representative on the final income tax return of the decedent, or by the estate on the estate's income tax return. Your Form 1099-INT may show more interest than you must include in your income. You must make an adjustment on your tax return to report the correct amount of interest. Report the total interest shown on Form 1099-INT on your Schedule 1 (Form 1040A) or Schedule B (Form 1040). Enter a subtotal of the interest shown on Forms 1099, and the interest reportable from other sources for which you did not receive Forms 1099. Show the total interest that was previously reported and subtract it from the subtotal. Identify this adjustment as “U.S. Savings Bond Interest Previously Reported.” Interest accrued on U.S. Treasury bonds. The interest accrued on U.S. Treasury bonds owned by a cash method taxpayer and redeemable for the payment of federal estate taxes that was not received as of the date of the individual's death is income in respect of a decedent. This interest is not included in the decedent's final income tax return. The estate will treat such interest as taxable income in the tax year received if it chooses to redeem the U.S. Treasury bonds to pay federal estate taxes. If the person entitled to the bonds (by bequest, devise, or inheritance, or because of the death of the individual) receives them, that person will treat the accrued interest as taxable income in the year the interest is received. Interest that accrues on the U.S. Treasury bonds after the owner's death does not represent income in respect of a decedent. The interest, however, is taxable income and must be included in the income of the respective recipients.

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 and ending with the date of the decedent's death, but not received as of that date, is income in respect of a decedent. Interest for a period after the decedent's death that becomes payable on the certificates after death is not income in respect of a decedent, but is taxable income includible in the income of the respective recipients.

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 (includes 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, the distribution is not currently taxed. A surviving spouse also can roll over tax free the taxable part of the distribution into a qualified plan, section 403 annuity, or section 457 plan.

Example —

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 —

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 a 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-tax-year period beginning with the first tax year in which a contribution was made to any Roth IRA of the owner. 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 a 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 Final Return for Decedent, earlier. The age 30 limitation 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.

HSA, Archer MSA, or a Medicare Advantage MSA

The treatment of an HSA, Archer MSA, or a Medicare Advantage MSA, at the death of the account holder depends on who acquires the interest in the account. If the decedent's estate acquired the interest, see the discussion under Final Return for Decedent, earlier. 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.

Deductions in Respect of a 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 or
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.

Similar treatment is given to the foreign tax credit. A beneficiary who must pay a foreign tax on income in respect of a decedent will be entitled to claim the foreign tax credit.

Depletion

The deduction for percentage depletion is allowable only to the person (estate or beneficiary) who receives income in respect of a decedent to which the deduction relates, whether or not that person receives the property from which the income is derived. An heir who (because of the decedent's death) receives income as a result of the sale of units of mineral by the decedent (who used the cash method) will be entitled to the depletion allowance for that income. If the decedent had not figured the deduction on the basis of percentage depletion, any depletion deduction to which the decedent was entitled at the time of death would be allowable on the decedent's final return, and no depletion deduction in respect of a decedent would be allowed to anyone else. For more information about depletion, see chapter 9 in Publication 535, Business Expenses.

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 a decedent must be included in the recipient's income. (This also is true for income in respect of a prior decedent.)

Individuals can claim this deduction only as an itemized deduction on line 28 of Schedule A (Form 1040). This deduction is not subject to the 2% limit on miscellaneous itemized deductions. Estates can claim the deduction on the line provided for the deduction on Form 1041. For the alternative minimum tax computation, the deduction is not included in the itemized deductions that are an adjustment to taxable income.

If income in respect of a 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, and
The limitation on capital losses.

Computation

To figure a recipient's estate tax deduction, determine:

The estate tax that qualifies for the deduction and
The recipient's part of the deductible tax.

Deductible estate tax

The estate tax is the tax on the taxable estate, reduced by any credits allowed. The estate tax qualifying for the deduction is the part of the net value of all the items in the estate that represents income in respect of a decedent. Net value is the excess of the items of income in respect of a decedent over the items of expenses in respect of a decedent. The deductible estate tax is the difference between the actual estate tax and the estate tax determined without including net value.

Example —

Jack Sage used the cash method of accounting. At the time of his death, he was entitled to receive $12,000 from clients for his services and he had accrued bond interest of $8,000, for a total income in respect of a decedent of $20,000. He also owed $5,000 for business expenses for which his estate is liable. The income and expenses are reported on Jack's estate tax return.

The tax on Jack's estate is $9,460 after credits. The net value of the items included as income in respect of the decedent is $15,000 ($20,000 - $5,000). The estate tax determined without including the $15,000 in the taxable estate is $4,840, after credits. The estate tax that qualifies for the deduction is $4,620 ($9,460 - $4,840).

Recipient's deductible part. Figure the recipient's part of the deductible estate tax by dividing the estate tax value of the items of income in respect of a decedent included in the recipient's income (the numerator) by the total value of all items included in the estate that represents income in respect of a decedent (the denominator). If the amount included in the recipient's income is less than the estate tax value of the item, use the lesser amount in the numerator.

Example —

As the beneficiary of Jack's estate (Example 1), you collect the $12,000 accounts receivable from his clients. You will include the $12,000 in your income in the tax year you receive it. If you itemize your deductions in that tax year, you can claim an estate tax deduction of $2,772 figured as follows:

Value included in your income	X	Estate tax qualifying for deduction
Total value of income in respect of decedent

	$12,000	X	$4,620	=	$2,772
	$20,000

If the amount you collected for the accounts receivable was more than $12,000, you would still claim $2,772 as an estate tax deduction because only the $12,000 actually reported on the estate tax return can be used in the above computation. However, if you collected less than the $12,000 reported on the estate tax return, use the smaller amount to figure the estate tax deduction.

Estates

The estate tax deduction allowed an estate is figured in the same manner as just discussed. However, any income in respect of a decedent received by the estate during the tax year is reduced by any such income that is properly paid, credited, or required to be distributed by the estate to a beneficiary. The beneficiary would include such distributed income in respect of a decedent for figuring the beneficiary's deduction.

Surviving annuitants

For the estate tax deduction, an annuity received by a surviving annuitant under a joint and survivor annuity contract is considered income in respect of a decedent. The deceased annuitant must have died after the annuity starting date. You must make a special computation to figure the estate tax deduction for the surviving annuitant. See Regulations section 1.691(d)-1.

Gifts, Insurance, 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 rents, that income is taxable to you. The income from property donated to a trust that is paid, credited, or distributed to you is taxable income to you. If the gift, bequest, or inheritance is the income from property, that income is taxable to you.

If you receive property from a decedent's estate in satisfaction of your right to the income of the estate, it is treated as a bequest or inheritance of income from property. See Distributions to Beneficiaries From an Estate, later.

Insurance

The proceeds from a decedent's life insurance policy paid by reason of his or her death generally are excluded from income. The exclusion applies to any beneficiary, whether a family member or other individual, a corporation, or a partnership.

Veterans' insurance proceeds. Veterans' insurance proceeds and dividends are not taxable either to the veteran or to the beneficiaries. Interest on dividends left on deposit with the Department of Veterans Affairs is not taxable.

Life insurance proceeds

Life insurance proceeds paid to you because of the death of the insured (or because the insured is a member of the U.S. uniformed services who is missing in action) are not taxable unless the policy was turned over to you for a price. This is true even if the proceeds are paid under an accident or health insurance policy or an endowment contract. If the proceeds are received in installments, see the discussion under Insurance received in installments, later.

Accelerated death benefits

You can exclude from income accelerated death benefits you receive on the life of an insured individual if certain requirements are met. Accelerated death benefits are amounts received under a life insurance contract before the death of the insured. These benefits also include amounts received on the sale or assignment of the contract to a viatical settlement provider. This exclusion applies only if the insured was a terminally ill individual or a chronically ill individual. This exclusion does not apply if the insured is a director, officer, employee, or has a financial interest, in any trade or business carried on by you.

Terminally ill individual

A terminally ill individual is one who has been certified by a physician as having an illness or physical condition that reasonably can be expected to result in death in 24 months or less from the date of certification.

Chronically ill individual

A chronically ill individual is one who has been certified as one of the following:

An individual who, for at least 90 days, is unable to perform at least two activities of daily living without substantial assistance due to a loss of functional capacity, or
An individual who requires substantial supervision to be protected from threats to health and safety due to severe cognitive impairment.

A certification must have been made by a licensed health care practitioner within the previous 12 months.

Exclusion limited

If the insured was a chronically ill individual, your exclusion of accelerated death benefits is limited to the cost you incurred in providing qualified long-term care services for the insured. In determining the cost incurred, do not include amounts paid or reimbursed by insurance or otherwise. Subject to certain limits, you can exclude payments received on a periodic basis without regard to your costs.

Insurance received in installments

If you receive life insurance proceeds in installments, you can exclude part of each