When Good Intentions Go Wrong in Estate Planning: Lessons from the Step-Up in Basis and the Rowland Case
For many families, the goal of estate planning is simple—pass assets to loved ones with as little tax burden as possible. Two powerful tools in this effort are the step-up in basis and estate tax portability. Used together, they can save heirs millions. But as the recent Rowland Tax Court case shows, even well-meaning plans can unravel when the rules aren’t followed to the letter.
The Step-Up in Basis: An Income Tax Saver
When someone passes away, the tax code often allows inherited assets to be revalued at their fair market value (FMV) on the date of death. This “step-up in basis” means that if heirs later sell the asset, they will likely pay little—or no—capital gains tax on the appreciation that occurred during the decedent’s lifetime.
In California, there’s an additional advantage: community property typically receives a full step-up on both halves at the first spouse’s death under IRC §1014(b)(6). This can be a significant benefit for surviving spouses.
But to lock in that benefit, a formal valuation is often essential. Even in estates that are not taxable, “a business valuation for the purpose of establishing a step-up in basis can provide significant benefits, including tax savings, better estate planning, and clarity in family business dynamics”. Undervaluing assets can lead to higher taxes later, and over-discounting for estate tax purposes can reduce the basis, triggering more capital gains when the asset is sold.
Estate Tax Portability: Doubling the Tax Shelter
Portability lets a surviving spouse use any unused estate tax exclusion from the first spouse to die. For deaths in 2025, the estate tax threshold is $13.99 million per person; in 2026, it will be $15 million, indexed for inflation thereafter. With portability, a married couple could potentially shield $30 million or more from estate taxes.
However, portability is not automatic. An estate tax return (Form 706) must be filed for the first spouse, even if no tax is due, and it must be prepared accurately. As the IRS warns, “obtaining the doubled estate tax shelter for married couples isn’t automatic… It’s really a trap for the unwary” (WSJ source).
The Rowland Case: A $1.5 Million Mistake
Billy Rowland, an Ohio businessman, left behind a sizable estate. After his death in 2018, his executor filed an estate tax return claiming portability from his late wife’s unused exclusion. But years earlier, when Fay Rowland’s estate filed its return, they had omitted specific values for certain assets.
That omission proved fatal. The IRS ruled Fay’s return defective, disallowing her $3.7 million unused exclusion and costing Billy’s heirs $1.5 million in extra estate taxes
The court’s decision highlights a critical truth—mistakes on the first spouse’s return may not be discovered until it’s too late to fix them.
Why These Two Rules Should Be Considered Together
While the step-up in basis reduces income taxes and portability preserves estate tax exemptions, both require accurate, timely, and well-documented reporting:
- Step-up in basis: Get qualified appraisals for real estate, closely held businesses, and unique assets at the first spouse’s death.
- Portability: File a complete Form 706, even for non-taxable estates, ensuring all required asset values are disclosed.
In both cases, valuation is the common thread. It not only supports the step-up but also provides the accuracy the IRS demands for portability elections.
The Takeaway
Estate planning success isn’t just about knowing the rules—it’s about executing them precisely. The Rowland case shows how one overlooked detail can erase millions in potential tax savings. For surviving spouses and heirs, the safest route is to:
- Work with an experienced estate attorney and CPA immediately after the first spouse’s death.
- Obtain formal valuations for all significant assets, regardless of whether the estate is taxable.
- File a timely, complete estate tax return to elect portability, even if no tax is owed.
A few extra steps today can prevent costly surprises tomorrow—and ensure your legacy goes to your loved ones, not the IRS.