Stepped-Up Basis on Inherited Property: How It Saves You Thousands in Taxes

What the Stepped-Up Basis Means for Inherited Property

Under IRC Section 1014, when you inherit real estate, the property's tax cost basis resets to its fair market value on the date the owner died — not what they originally paid for it. This adjustment eliminates decades of unrealized capital gains in a single step.

Here's what that looks like in practice: your parent bought their house in 1990 for $100,000. By the time they pass away, the house is worth $700,000. Under carryover basis rules (which apply to gifts, not inheritances), you'd owe capital gains tax on $600,000 of appreciation if you sold. But with the stepped-up basis, your new cost basis is $700,000. If you sell shortly after for $710,000, your taxable gain is only $10,000.

The tax savings can be enormous — potentially $90,000 or more in avoided capital gains tax on a single property.

How to Calculate Your Taxable Gain

The formula is straightforward:

Taxable Capital Gain = Sale Price − (Date-of-Death Value + Post-Death Improvements)

The date-of-death value is established by a professional appraisal. Any capital improvements you make after inheriting — a new roof, kitchen renovation, structural repairs — are added to the basis. Routine maintenance does not count.

If you sell the property for less than its date-of-death value, you have a capital loss that may be deductible against other gains or ordinary income (up to $3,000 per year for individuals).

Why the Date-of-Death Appraisal Is Non-Negotiable

The stepped-up basis is only as defensible as the appraisal supporting it. Without a professional date-of-death valuation, you have no documentation to present if the IRS questions your reported basis on a future tax return.

Order a retrospective appraisal from a licensed residential appraiser as soon as possible after the death. The appraiser will establish fair market value as of the exact date of death, using comparable sales, property condition, and local market data. This typically costs $500 to $800 and is a legitimate estate expense.

If you wait years to get this appraisal, comparable sales data becomes harder to find and the valuation becomes less reliable. Don't put it off.

What About Inherited Property Abroad

U.S. taxpayers who inherit foreign real property from a non-U.S. decedent still receive the stepped-up basis under Section 1014. The property's value is converted to USD at the exchange rate on the date of death.

However, if the aggregate value of reportable gifts or bequests you receive from a nonresident alien or foreign estate exceeds $100,000, you generally must report them on IRS Form 3520. Failure to file carries steep penalties — up to 25% of the value of the unreported inheritance.

How It Works in Other Countries

The stepped-up basis is a U.S. rule. Other countries handle inherited property taxes differently:

Canada has no inheritance tax, but treats death as a "deemed disposition" — the deceased is considered to have sold all assets at fair market value immediately before death. Capital gains tax is triggered on the deceased's final tax return, not when heirs sell. The Principal Residence Exemption can shelter the gain if the property was the deceased's primary home.

United Kingdom provides a CGT uplift on death, resetting the property's base cost to probate value. Heirs only pay capital gains tax on appreciation after the date of death. However, Inheritance Tax (40% above £325,000) may apply to the estate before the property reaches heirs.

Australia rolls over the cost base — death is not a taxable event. CGT is deferred until the executor or beneficiary sells. If the property was the deceased's main residence immediately before death, was not then used to produce income, and the executor or beneficiary's ownership interest ends within two years, the sale is fully CGT-exempt.

Common Mistakes That Cost Heirs Money

Gifting property before death instead of bequeathing it. Gifts use carryover basis — the recipient inherits the original purchase price, not current value. A parent who transfers a $700,000 house to a child before dying costs that child the entire stepped-up basis benefit.

Selling too quickly without an appraisal. If you sell immediately and report the sale price as your basis, you might be right — but without an independent appraisal, you can't prove the value wasn't actually higher. A higher basis means a lower taxable gain.

Ignoring state-level inheritance taxes. Five states — Kentucky, Maryland, Nebraska, New Jersey, and Pennsylvania — impose state inheritance taxes on property transfers. Maryland is the only state with both an estate tax and an inheritance tax. These are separate from and in addition to any federal estate tax.

The Property & Real Estate Transfer After Death toolkit includes a stepped-up basis calculation worksheet and a date-of-death valuation checklist to help you document your basis correctly and avoid overpaying capital gains tax.