When you inherit property, its tax basis resets to the fair market value on the date the previous owner died, rather than what they originally paid for it.1Office of the Law Revision Counsel. 26 U.S. Code 1014 – Basis of Property Acquired From a Decedent This reset is called the step-up in basis, and it can erase decades of built-in capital gains in a single moment. If your parent bought stock for $5,000 and it was worth $200,000 the day they died, your basis becomes $200,000. Sell it the next day for that amount, and you owe zero capital gains tax on the $195,000 of appreciation that accumulated during their lifetime.
How the Reset Works
Basis is your starting point for calculating profit or loss when you sell an asset. For property you buy yourself, basis is what you paid plus the cost of improvements.2Internal Revenue Service. Publication 551, Basis of Assets When you inherit, that original cost stops mattering. Federal law substitutes the fair market value on the date of death as your new basis.3Internal Revenue Service. Gifts and Inheritances
The word “step-up” reflects the fact that most assets appreciate, so the new basis usually sits higher than what the deceased originally paid. The rule works both ways, though. If an asset lost value during the owner’s lifetime, the heir receives a stepped-down basis to the lower fair market value at death. You cannot claim a loss on that pre-death decline if you later sell for more than the date-of-death figure.
Why Inheriting Beats Receiving a Lifetime Gift
The step-up applies only to property acquired from someone who died. Property you receive as a gift during the owner’s lifetime follows a different rule: you take over the giver’s original basis, sometimes called carryover basis.4Office of the Law Revision Counsel. 26 USC 1015 – Basis of Property Acquired by Gifts and Transfers in Trust
Say your father gives you stock he bought for $10,000 that’s now worth $100,000. Your basis stays at $10,000. Sell it for $100,000, and you owe capital gains tax on the full $90,000 of appreciation. Had he held that same stock until death, you would have inherited it with a $100,000 basis and owed nothing on the gain. The gap creates a strong incentive to hold highly appreciated assets until death rather than giving them away during life.
How Much of the Asset Steps Up
The share of an asset that gets a new basis depends on how it was owned, and for married couples, whether the state uses community property rules.
Joint Tenancy Between Spouses
When spouses hold property as joint tenants with right of survivorship, only the deceased spouse’s half is included in their gross estate for federal tax purposes.5Office of the Law Revision Counsel. 26 U.S. Code 2040 – Joint Interests – Section 2040(b) Only 50% of the property receives a step-up. The surviving spouse keeps their original basis on their half and gets a new fair-market-value basis on the deceased spouse’s half.
Joint Tenancy Between Non-Spouses
Rules for non-spouse joint tenants are less generous. The entire property is initially presumed to belong to the deceased’s estate unless the surviving owner can prove they contributed their own funds toward the purchase.6Office of the Law Revision Counsel. 26 U.S. Code 2040 – Joint Interests – Section 2040(a) Whatever portion the surviving owner can’t document gets included in the deceased’s estate, and only that included portion steps up.
Community Property States
Married couples in the nine community property states get a significant advantage. When one spouse dies, both halves of community property receive a full step-up to fair market value, including the surviving spouse’s share.7Office of the Law Revision Counsel. 26 U.S. Code 1014 – Basis of Property Acquired From a Decedent – Section 1014(b)(6) That’s a 100% basis adjustment on the entire asset, compared to the 50% adjustment that joint tenancy provides elsewhere.
The community property states are Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin.8Internal Revenue Service. Publication 555 (12/2024), Community Property For a couple with a $2 million home originally purchased for $400,000, the difference between a 50% step-up and a 100% step-up could mean avoiding capital gains tax on an extra $800,000 of appreciation.
Setting the Fair Market Value
Since the new basis is the fair market value on the date of death, getting that number right matters. The method depends on what you inherited.
For publicly traded stocks, bonds, and mutual funds, fair market value is straightforward: the closing price on the date of death, or the average of the high and low trading prices that day.3Internal Revenue Service. Gifts and Inheritances Brokerage firms typically calculate this automatically.
For real estate, closely held businesses, art, collectibles, and other hard-to-price assets, you need a professional appraisal as close to the date of death as possible. For a standard single-family home, appraisal fees typically run from a few hundred dollars to over $1,000. Unusual or high-value properties cost more.
The Alternate Valuation Date
An estate’s executor can elect to value all estate assets six months after the date of death instead of on the date of death.9Office of the Law Revision Counsel. 26 USC 2032 – Alternate Valuation This election makes sense when values dropped during those six months, because it can reduce both the estate’s total value and the estate tax owed. The IRS only allows the election when it produces both of those reductions.
A few catches apply. The election is all-or-nothing: every asset is valued at the alternate date, not just the ones that declined. Anything sold or distributed during the six-month window is valued on the actual date it left the estate. Once made on Form 706, the election is permanent.
What Does Not Step Up
Not everything you inherit receives a new basis. The biggest excluded category is income the deceased had earned or was entitled to but had not yet received or been taxed on. The IRS calls this Income in Respect of a Decedent, and it includes:10Internal Revenue Service. Publication 559 (2025), Survivors, Executors, and Administrators
- Traditional retirement accounts such as IRAs, 401(k) plans, and 403(b) accounts, where contributions and growth have never been taxed. Beneficiary withdrawals are taxed as ordinary income.
- Non-qualified annuity earnings that accumulated tax-deferred during the owner’s lifetime.
- Accrued interest on U.S. savings bonds that was never reported during the owner’s life.
- Wages, commissions, or bonuses owed to the deceased at death.
The logic is that these assets represent income never taxed the first time. A step-up would let that income escape taxation entirely, so the beneficiary pays ordinary income tax on distributions instead.
Trusts and the Step-Up
Whether assets inside a trust step up depends on the type of trust.
Revocable (Living) Trusts
Assets held in a revocable trust receive a full step-up at the grantor’s death. The law treats them as acquired from the decedent because the grantor kept the right to revoke or change the trust during their lifetime.11Office of the Law Revision Counsel. 26 U.S. Code 1014 – Basis of Property Acquired From a Decedent – Section 1014(b)(2) For basis purposes, a revocable trust works the same as outright ownership.
Irrevocable Grantor Trusts
Irrevocable trusts are where many families get tripped up. In 2023, the IRS issued Revenue Ruling 2023-2, confirming that assets in an irrevocable grantor trust do not receive a step-up at the grantor’s death when those assets are not included in the grantor’s taxable estate.12Internal Revenue Service. Internal Revenue Bulletin 2023-16, Revenue Ruling 2023-2 The beneficiaries inherit the grantor’s original basis, just like a lifetime gift.
The reasoning: irrevocable trusts remove assets from the estate, and the step-up under federal law only applies to property included in the estate at death. Either the asset stays in the estate, subject to estate tax but eligible for a step-up, or it leaves through an irrevocable trust, protected from estate tax but stuck with the original basis. If the step-up is a priority, the trust may need to be structured so its assets are pulled back into the taxable estate.
Capital Gains When You Sell Inherited Property
Even with a stepped-up basis, you may still owe capital gains tax if the asset appreciates between the date of death and the date you sell. Inherited property always qualifies for long-term capital gains treatment, no matter how long you actually hold it.13Office of the Law Revision Counsel. 26 U.S. Code 1223 – Holding Period of Property – Section 1223(9) Sell the day after you inherit, and any gain is still taxed at long-term rates.
Federal long-term capital gains rates run 0%, 15%, or 20%, depending on your taxable income. Higher-income heirs face an additional 3.8% net investment income tax on capital gains when modified adjusted gross income exceeds $200,000 for single filers or $250,000 for joint filers.14Internal Revenue Service. Topic No. 559, Net Investment Income Tax That can push the effective top federal rate on inherited property gains to 23.8%. State income taxes, where they apply, add to the total.
Inherited Rental and Business Property
The step-up carries an extra benefit for property that was used in a business or as a rental: it wipes out any depreciation recapture the original owner would have owed. If your parent claimed $150,000 in depreciation on a rental over the years, selling during their lifetime would have triggered tax on that recapture at rates up to 25%. When you inherit instead, the stepped-up basis effectively zeroes out the prior depreciation, and the recapture liability disappears.
You also start a fresh depreciation schedule based on the new value. If a rental house is worth $400,000 at death, you depreciate it starting from $400,000 (less the allocated land value), regardless of what the original owner paid or how much they had already depreciated. That means larger annual deductions going forward.
Documenting Your Basis
For estates large enough to require a federal estate tax return, specific reporting rules tie the heir’s basis to the values on that return. For deaths in 2026, Form 706 must be filed when the gross estate exceeds $15,000,000.15Internal Revenue Service. What’s New — Estate and Gift Tax
Form 8971 and Schedule A
When Form 706 is required, the executor must also file Form 8971 with the IRS no later than 30 days after the estate tax return is due or filed, whichever comes first.16Internal Revenue Service. Instructions for Form 8971 and Schedule A The form reports which beneficiaries received which assets and the value assigned to each. The executor also sends each beneficiary a Schedule A showing the specific property inherited and its reported basis.
If a valuation later changes because of an IRS audit, settlement, or court determination, the executor files a supplemental Form 8971 and sends an updated Schedule A within 30 days of the value becoming final.16Internal Revenue Service. Instructions for Form 8971 and Schedule A Keep every version of Schedule A you receive. It’s what establishes your basis if the IRS ever asks.
The Consistency Rule
Beneficiaries are legally required to use the basis reported on Schedule A when filing their own income tax returns. Reporting a higher basis than the estate reported, in a way that reduces your tax, triggers a 20% accuracy-related penalty on the underpayment.17eCFR. 26 CFR 1.6662-9 – Inconsistent Estate Basis Reporting The penalty applies automatically to the portion of the underpayment caused by the inconsistency. When you inherit from a taxable estate, the number on Schedule A is the number you use.
When No Estate Tax Return Is Filed
Most estates fall well below the $15 million threshold and never file Form 706. In those cases, no Form 8971 or Schedule A is generated, and the consistency rules do not technically apply. You still need to establish and document the stepped-up basis yourself. Get an appraisal for real estate or other hard-to-value assets as close to the date of death as possible, and save brokerage statements showing security values on that date. Without documentation, proving your basis years later when you sell becomes difficult.
Even where federal estate tax does not apply, some states impose their own estate or inheritance taxes at much lower thresholds. An estate that owes nothing to the IRS may still owe a state-level tax, depending on where the deceased lived or where the property sits.