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The income tax treatment of assets at death is governed by Internal Revenue Code §1014, which generally provides for a step-up in basis to fair market value for property included in a decedent’s gross estate. This means that there is sometimes a significant benefit to holding appreciated assets in one’s own name rather than “selling” them during lifetime and incurring capital gains. It’s important to understand that when married couples hold accounts jointly, 50% of the account is considered to be the other spouse. These are especially important considerations for divorce, gift and death tax purposes.
Community Property vs. Equitable Distribution
Before we begin to see the connection between basis and how property is held in a particular state, we need to understand the difference between community property and equitable distribution. In community property states, IRC §1014(b)(6) provides that both the decedent’s and the surviving spouse’s one-half interests in community property receive a full step-up in basis at the first spouse’s death. As a result, 100% of community property may be sold by the surviving spouse with minimal or no capital gains tax. Joint trusts in those jurisdictions are often designed to preserve community property character and efficiently implement this favorable tax treatment.
New Jersey, by contrast, is an equitable distribution state. Ownership controls. At the death of the first spouse, only the decedent’s ownership interest in an asset receives a basis adjustment. The surviving spouse’s interest retains its historic carryover basis. Accordingly, the use of a joint trust in New Jersey does not replicate community property treatment and does not produce a full step-up in basis.
Limitations of Joint Trusts in Equitable Distribution States
In an equitable distribution state, a joint trust:
• Does not alter underlying ownership interests
• Does not convert assets into community property for income tax purposes
• Does not trigger a full basis adjustment under IRC §1014
In practice, joint trusts may also introduce ambiguity regarding ownership, reduce post-mortem planning flexibility, and complicate basis optimization strategies. Therefore, in New Jersey and other non-community property states, separate revocable trusts, coupled with deliberate asset titling, typically provide greater clarity and tax planning precision.