31 Jul The trouble with 50 years of stock ownership

 Q. An elderly relative has several hundred thousand dollars in one stock. This stock started as an employee purchase and never touched over 50 years and it’s grown due to dividend reinvestment, stock split and such. My question: How will any tax consequences be figured when this stock is left upon death and sold by three children? No information has been kept over the years.

A. It’s all about cost basis.

It’s a technical income tax term, and this is something the relative, and the heirs, will need to know.

Cost basis starts with the original cost of the stock, said Bernie Kiely, a certified financial planner and certified public accountant with Kiely Capital Management in Morristown. Then you add the cost of subsequent purchases of the stock, which could be from outright purchase of new shares or the result of reinvested dividends.

As time goes on, the number of shares increases, as does the cost basis.

Then it can get more complicated, such as when a corporation decides to split its stock.

Kiely said there are two types of stock splits. The first type is a positive split, which is most common, when the number of shares outstanding increase. In a reverse split, the number of shares decreases. He said all stock splits are primarily cosmetic events lacking any direct economic substance.

He offered this example: Assume you own 100 shares of Netflix Inc. (NFLX) that you purchased on Feb. 25, 2010. Your cost basis for NFLX was $65.59 per share, for a total of $6,559. On July 1, 2015, Netflix was trading for $655.45 per share, soo the market value of your shares was $65,545, Kiely said.

Recently, Netflix announced a 7 for 1 stock split payable to shareholders on July 2, 2015. So on July 2, your 100 shares became 700 shares. Your total cost basis was still $6,559, Kiely said, but now your per share cost dropped to $9.37. Your shares still are worth $65,545 in total, but the share price dropped to $93.635.

In a reverse stock split, Kiely said, the number of shares decreases.

“As in positive split, the total cost basis and market values remain the same,” he said. “If the number of shares decrease, the results are an increase in both the per share cost basis and current market price.”

So why do corporations split their stock? In the Netflix example, Kiely said, you can see that it is more affordable to buy a share of stock at $93.65 than at $655.45, the pre-split share price.

“In 2009, American International Group (AIG) had a 1 for 20 reverse stock split,” he said. “The reverse split increased its share price from $1.16 per share to $23.20 per share. The reverse split made AIG stock price a little more respectful. So you can see splits are just cosmetic in nature.”

Now to your elderly relative’s stock situation.

Kiely said if your elderly relative wanted to sell the stock, someone would have to gather 50 years of records to come up with an accurate cost basis. However, things change if your relative holds on to their shares for the rest of his life.

“The three children would inherit one third of your relative’s shares,” he said. “The good news is they each receive a `step up’ in basis along with their inheritance.”

Upon death of the relative, the heirs would get a new cost basis for the shares, and all the potential accumulated capital gains tax is forgiven, Kiely said. Any subsequent gains in price will be taxable to the heir.

“In some families with inadequate or no records at all — think grandma’s farm — one estate planning technique is to hold on to appreciated assets and wait for the step up in basis upon grandma’s death,” Kiely said.

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This story was first posted in July 2015.