First off, “in respect of” is a bit archaic. IRD is simply ‘income concerning a decedent’. To recap, an individual’s taxable year ends with her death. After death, the estate is responsible for taxes. IRD comes into existence because of the difference between cash based and accrual based accounting. Most individual tax payers report their income on a cash basis, that is, when they actually receive it. In contrast, most businesses report their income when earned, i.e., they use accrual based accounting.
Cash based accounting gives rise to situations where income has been earned but no cash has yet been received, and this income is therefore not taxed. Examples are accrued but unpaid salary, interest or dividends for the period ending at death, and untaxed retirement benefits. Because these amounts have been not taxed to the individual, who has now ceased to exist as taxpayer, Congress has decided that the estate has to pay them as income.
In sum Income in Respect of a Decedent can be defined as the gross income a deceased individual would have received had he or she not died and that has not been included on the deceased individual’s final income tax return. Also see The problem of the disappearing income: Income in Respect to a Decedent and a law review article Income in Respect of a Decedent.
The IRD Deduction
If an item of IRD was subject to estate tax at the decedent’s death and is subsequently included in the recipient’s gross income, both estate and income taxes will have to be paid, a double burden. To mitigate this situation, beneficiaries are allowed an income tax deduction for the respective portion of the estate tax. For more detail and a worked example see “Many heirs miss out on a valuable tax deduction”.
