Step-Up in Basis at Death: How Capital Gains Reset for Heirs

This article is educational information, not tax or legal advice. Every estate is different, and the rules that follow have exceptions, state variations, and pending changes. Before you sell an inherited asset or make any tax election, please consult a licensed CPA or estate attorney about your specific situation.

If a parent leaves you a house they bought for $80,000 in 1978 that is now worth $600,000, and you sell it a month after inheriting it, do you owe federal capital gains tax on the $520,000 the house appreciated during their lifetime?

Under current federal law, almost always no. A provision called the step-up in basis at death, in Section 1014 of the Internal Revenue Code, resets the cost basis of most inherited assets to their fair market value on the date the previous owner died. Decades of appreciation are wiped clean for income tax purposes.

For many families, this is one of the most valuable provisions in the tax code — quietly responsible for keeping inherited homes and family businesses out of a forced sale. It is also poorly understood, often misapplied by grieving heirs, and — as of May 2026 — the subject of a proposed Treasury rulemaking that would cap it for larger estates. This guide walks through how the step-up works today, which assets qualify, which do not, and what to document.

What "basis" means, in plain English

"Basis" is a tax term for the number the IRS uses to measure your gain or loss when you sell something. In its simplest form, basis is what you paid for an asset. If you buy a share of stock for $100 and sell it for $500, your basis is $100, your gain is $400, and you owe capital gains tax on that $400.

Basis can be adjusted over time. Capital improvements to a home add to basis; depreciation deductions on a rental property subtract from it; reinvested dividends increase basis. The final number is called "adjusted basis." The step-up in basis at death is an override of this whole system, replacing the decedent's carefully tracked (or, more often, poorly tracked) adjusted basis with a single new number: fair market value on the date of death.

What the step-up in basis actually does

Internal Revenue Code Section 1014(a) provides that the basis of property acquired from a decedent is generally the fair market value of the property at the date of the decedent's death. The decedent's original cost basis is erased. Every dollar of appreciation that accrued during the decedent's lifetime is, for income tax purposes, forgiven.

A simple example: your father bought 1,000 shares of a public stock in 1985 for $10,000. On the date he died, those shares were worth $100,000. His original $10,000 basis disappears. Your new basis in those shares is $100,000. If you sell them six weeks later for $110,000, you owe capital gains tax on $10,000, not on $100,000. The $90,000 of appreciation your father built up over four decades is never taxed as income to anyone.

Two additional benefits are attached to the step-up. The heir's holding period is automatically long-term regardless of how quickly the heir sells, so gains after the date of death are taxed at long-term capital gains rates. And the step-up applies whether or not the estate is large enough to owe federal estate tax — even estates well below the filing threshold receive full basis reset on qualifying assets.

Which assets qualify for the step-up

Most non-retirement assets held by the decedent at death receive a step-up under §1014. The common categories:

• Real estate — primary residence, vacation home, rental property, land, farmland, and interests in real estate held through a revocable trust.
• Publicly traded securities — stocks, bonds, ETFs, and mutual funds held in taxable brokerage accounts.
• Closely held business interests — shares of a family C or S corporation, LLC membership interests, and partnership interests. Valuation of these interests requires an appraisal and often involves discounts for lack of marketability or control.
• Collectibles, art, jewelry, antiques, and vehicles.
• Cryptocurrency held in personal wallets or taxable accounts, since the IRS treats digital assets as property.
• Assets in a revocable living trust — because a revocable trust is included in the grantor's gross estate, §1014 applies to trust assets the same way it applies to probate assets. For a broader look at how revocable trusts function, see /resources/living-trust-vs-will.

Which assets do NOT get a step-up

The most important — and most frequently misunderstood — exception is retirement accounts. Traditional IRAs, 401(k)s, 403(b)s, and similar pre-tax retirement plans do not receive a step-up in basis at death. They are treated as "income in respect of a decedent," or IRD, under IRC §691, and retain their pre-tax character. When an heir takes a distribution from an inherited traditional IRA, that distribution is taxable to the heir as ordinary income, exactly as it would have been to the decedent. This is a common and expensive surprise; if you have inherited a retirement account, review /resources/inherited-ira-rules before taking any distribution.

Other assets that do not receive a step-up:

• Annuities with deferred taxable income. The deferred portion is IRD and is taxed to the beneficiary as ordinary income.
• Series EE and Series I U.S. savings bonds with accrued but unreported interest. The heir owes ordinary income tax on that accrued interest.
• Health Savings Accounts (HSAs) inherited by a non-spouse beneficiary. The account generally loses HSA status and becomes taxable to the beneficiary as ordinary income in the year of death.
• Assets in an irrevocable trust that were not included in the decedent's gross estate. If a grantor moved assets into a non-grantor irrevocable trust years earlier and gave up the powers that would cause inclusion, those assets typically do not get a step-up.
• Lifetime gifts received by the heir before the donor's death. The recipient takes the donor's original basis (called "carryover basis"), not a stepped-up basis. This is why estate planners generally advise against gifting deeply appreciated assets during life.

Roth IRAs are a special case. They receive no formal step-up because there is no untaxed appreciation to step up — qualified distributions from a Roth are already income-tax-free. Heirs of Roth IRAs still face required distribution timelines but do not owe income tax on qualified withdrawals.

Community property versus common-law states: the "double step-up"

Where a married couple lives can dramatically change how much basis they receive at the first death. In community property states — Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin — property acquired during marriage from earnings is generally owned equally by both spouses. When the first spouse dies, §1014(b)(6) treats both halves of the community property as acquired from the decedent for basis purposes. Both the deceased spouse's half and the surviving spouse's half receive a full step-up to fair market value on the date of death. This is the "double step-up." Alaska, Tennessee, South Dakota, Florida, and Kentucky allow spouses to elect community property treatment for specific assets through a community property trust, which can extend the double step-up to couples outside those nine states.

In common-law states (every other state), assets held jointly by a married couple generally receive only a half step-up at the first death — the deceased spouse's half is stepped up, and the surviving spouse's half retains its original basis. A couple in Ohio who bought a rental property for $200,000 that is worth $600,000 at the husband's death would see the wife's new basis rise to $400,000 (her original $100,000 half plus the stepped-up $300,000 half). A couple in California with the same facts would see the surviving spouse's basis rise to the full $600,000. Joint tenancy with right of survivorship between non-spouses generally produces a step-up only on the decedent's fractional share, with a narrow §2040 exception when the decedent contributed 100% of the consideration.

The alternate valuation date election

The default rule uses fair market value on the date of death. But under IRC §2032, the executor of an estate may elect to value the estate as of six months after the date of death instead. This is called the alternate valuation date. If the executor makes the election, the alternate valuation date value becomes the new basis for the heirs.

Several rules constrain the election. It is all-or-nothing — the executor cannot pick and choose which assets use the six-month value. It is only available if it reduces both the gross estate and the estate tax owed, which effectively makes it unavailable to estates that owe no federal estate tax to begin with. And any asset sold, distributed, or otherwise disposed of during the six-month window is valued at its date-of-disposition value, not at the six-month mark. The election is most useful when a market downturn between death and six months later reduces the estate's value materially, and it must be made on a timely-filed Form 706 estate tax return.

Special valuation for family farms and closely held businesses

For families whose estates include actively operated farms or closely held businesses, IRC §2032A allows a special use valuation. Rather than valuing farmland at its "highest and best use" (which might be residential development), qualifying real property can be valued at its actual use value. The reduction is capped by an inflation-adjusted limit (roughly $1.4 million for 2025) and carries strict qualification rules — material participation by family members for years before and at least ten years after death, with recapture on premature disposition. Narrow, but for the families it applies to it can be the difference between keeping and selling a multigenerational farm.

Step-down in basis and depreciated property

The step-up cuts both ways. If an asset is worth less at death than the decedent's original basis, §1014 still applies — the basis "steps down" to the lower fair market value, and any unrealized loss the decedent had at death is permanently erased. Heirs cannot claim a capital loss on a decline the decedent never realized.

For depreciable property such as rental real estate, the step-up produces a substantial additional benefit: the decedent's accumulated depreciation is not recaptured from the heir. The heir starts fresh at the stepped-up basis and begins a new depreciation schedule — a significant tax benefit compared to what the parent would have owed on sale during life.

A worked numeric example

Consider a widowed parent who dies in 2026 leaving three assets to a single adult child: a primary residence purchased in 1992 for $150,000, worth $650,000 on the date of death; a brokerage account holding shares purchased over decades for a combined $80,000, worth $420,000 on the date of death; and a traditional IRA with a $300,000 balance.

The child's new basis in the house is $650,000 and in the brokerage shares is $420,000. If the child sells the house six months later for $655,000, the taxable gain is $5,000; if the child liquidates the brokerage account at $425,000, the gain is $5,000. The lifetime appreciation of roughly $840,000 across those two assets is not taxed as income to anyone.

The IRA is different. The full $300,000 is IRD; distributions to the child are taxable as ordinary income in the year received, and under current rules for most non-spouse beneficiaries the account must generally be emptied within ten years. There is no step-up. Depending on the child's income, the tax on those distributions could easily exceed $75,000. This asymmetry often surprises heirs and has planning implications during the decedent's lifetime — retirees with both taxable and pre-tax assets sometimes benefit from drawing down pre-tax accounts first and preserving appreciated taxable assets for the step-up at death.

The May 2026 Treasury proposal — a possible $3M cap

On May 12, 2026, the U.S. Department of the Treasury released a notice of proposed rulemaking that would cap the basis step-up any single decedent's estate can provide. Under the proposal:

• The step-up would be capped at $3 million per decedent.
• A surviving spouse could elect portability of a deceased spouse's unused cap, allowing a married couple to shelter up to $6 million of appreciation across both deaths.
• Appreciation above the cap would receive "carryover basis" — the heir would inherit the decedent's original cost basis for those amounts and would owe capital gains tax on the full pre-death appreciation whenever the assets are eventually sold.
• The proposal opened a 60-day public comment period and, if finalized as drafted, would apply to deaths occurring on or after January 1, 2027.

The proposal is not law. It is a proposed regulation in a public comment window. It has not been finalized, and history suggests caution about assuming it will be — a similar Biden administration proposal in 2021 did not become law. Whether the 2026 proposal is finalized as drafted, modified after comments, withdrawn, or superseded by legislation is genuinely uncertain at the time of this writing. Readers should verify current status before making planning decisions.

What the proposal would mean, if enacted: for the substantial majority of estates, nothing. Most decedents do not leave more than $3 million of appreciated assets. For larger estates with concentrated appreciated positions — a single-stock founder's holding, a highly appreciated real estate portfolio, a family business built over decades — the proposal could produce substantial tax bills for heirs. A $10 million unrealized gain above a $3 million cap, sold at long-term capital gains rates, could produce roughly 20% federal capital gains tax plus the 3.8% net investment income tax, or about 23.8% before state taxes. The practical response for families potentially affected is not to make hasty gifts or restructurings based on a proposal — those moves could themselves lose the step-up under existing rules — but to talk to an estate attorney about scenarios and watch what happens over the comment period.

What executors and heirs should document

Whether or not the estate owes federal estate tax, careful documentation of date-of-death values protects heirs from paying more capital gains tax than they owe on a future sale.

• Date-of-death value of every asset. For publicly traded securities, most brokerages will produce a date-of-death valuation statement on request; the standard method is the average of the high and low trading prices on the date of death (or the closest trading day, if death falls on a weekend or holiday).
• Formal real estate appraisal. Order a written appraisal from a licensed real estate appraiser with an effective date equal to the date of death, ideally within a few months while comparable sales are contemporaneous. A realtor's comparative market analysis is not sufficient documentation for larger estates.
• Business valuation. For closely held business interests, hire a credentialed business appraiser (ASA, CVA, or ABV). Discounts for lack of marketability and lack of control are typically part of the valuation and materially affect the basis.
• The decedent's original cost records — useful as a fallback if step-up is disallowed for any asset, and required for lifetime gifts that carry over basis.
• Form 706, the federal estate tax return, if the gross estate plus adjusted taxable gifts exceeds the filing threshold ($13.99 million per individual for deaths in 2025; verify the current-year figure).
• Form 8971 and Schedules A, filed within 30 days of Form 706, reporting the value of each asset to the IRS and to each beneficiary. This creates a "consistent basis" requirement — the heir must generally use a basis consistent with the reported estate value.

Executors have additional responsibilities beyond basis documentation, including filing a final income tax return for the decedent. Our guide at /resources/final-tax-return-deceased walks through the mechanics of that return.

Common mistakes heirs make

Basis mistakes are among the most common — and most costly — errors on individual tax returns after an inheritance. The recurring ones:

• Using the decedent's original cost basis by mistake. An heir sells inherited stock and enters the decedent's decades-old purchase price on Schedule D, effectively paying capital gains tax on gains that had already been forgiven at death. This alone costs heirs tens of thousands each year in overpaid tax.
• Not ordering a date-of-death appraisal for real estate. By the time the property is sold three or five years later, contemporaneous comparable sales are hard to reconstruct, and the heir either underdocuments the basis or scrambles for a retrospective appraisal.
• Assuming a retirement account was stepped up. It was not. Traditional IRA and 401(k) distributions are fully taxable to heirs at ordinary income rates.
• Selling too quickly without documentation. A quick sale is often fine — the sale price is strong evidence of fair market value at death — but the documentation should still exist.
• Not consulting a professional. IRS matching programs identify inconsistencies between reported basis and estate-return values. Getting the basis right the first time avoids audits and penalties.

Estate planning implications

The step-up shapes many decisions in estate planning during the owner's lifetime. The most important implication: gifting deeply appreciated assets during life generally loses the step-up. The recipient takes the donor's original basis. For assets that will not be sold during the donor's lifetime and are held for eventual transfer to heirs, holding them until death — rather than gifting them — often produces a better after-tax result. Charitable giving of appreciated assets during life is a well-established exception: the donor gets a fair-market-value income tax deduction and avoids capital gains on the appreciation.

Irrevocable trusts require careful structuring. Trusts drafted as "grantor trusts" whose assets are included in the grantor's estate preserve step-up; trusts drafted to remove assets from the estate typically sacrifice it. For any thoughtful estate plan, the interaction between step-up, retirement accounts, and state law needs to be worked through with a professional. If you are earlier in the process and thinking about the underlying documents, see /resources/how-to-write-a-will. If a loved one died without an estate plan, the rules that apply are covered in /resources/dying-without-a-will, and for smaller estates the process may run through a /resources/small-estate-affidavit rather than a full probate.

When to see a professional

Almost any inheritance benefits from a one-hour conversation with a CPA or estate attorney. The situations where professional help most reliably pays for itself: any real estate inheritance; any inheritance from an estate that filed a federal Form 706; any inherited interest in a closely held business or partnership; any concentrated stock position with large embedded gains; any inheritance where the character of the asset is unclear (revocable trust versus irrevocable trust versus joint versus probate); and any inheritance that includes both taxable and retirement assets, where drawdown sequencing affects the total tax bill. Professional fees for a discrete basis or planning question are typically a small fraction of the tax savings from getting basis right.

The bottom line

The step-up in basis at death is one of the most powerful and least-understood provisions in the federal tax code. Under current law it has no dollar cap, applies to most non-retirement assets, delivers a "double step-up" in community property states, and requires only careful documentation of date-of-death values to secure. The May 2026 Treasury proposal would cap the step-up at $3 million per decedent, or $6 million for a married couple, effective for deaths on or after January 1, 2027 if finalized — but the proposal remains proposed as of this writing, not final law, and its future is uncertain.

What heirs and executors should do today: document date-of-death values carefully, do not confuse retirement accounts with stepped-up taxable assets, and do not make hasty planning changes based on a proposed regulation that may not become final. When it is time to actually sell an inherited asset or make a tax election, this article is not a substitute for professional advice — please consult a licensed CPA or estate attorney about your specific circumstances. If you are also working through the physical side of settling an estate, our guide at /resources/cleaning-out-a-deceased-loved-ones-home may help.

Sources

1. Cornell Legal Information Institute, 26 U.S. Code § 1014 — Basis of property acquired from a decedent. The statutory basis for the step-up rule, including the special community property provision at §1014(b)(6).
2. Internal Revenue Service, Publication 559 — Survivors, Executors, and Administrators. Official guidance on filing final tax returns, reporting inherited property basis, and the treatment of income in respect of a decedent.
3. Cornell Legal Information Institute, 26 U.S. Code § 691 — Recipients of income in respect of decedents. Governs the tax treatment of retirement accounts, deferred annuities, and other IRD items that do not receive a step-up.
4. Cornell Legal Information Institute, 26 U.S. Code § 2032 — Alternate valuation. The six-month alternate valuation date election and its qualifying conditions.
5. Cornell Legal Information Institute, 26 U.S. Code § 2032A — Valuation of certain farm, etc., real property. Special-use valuation for qualifying family farms and closely held businesses.
6. U.S. Department of the Treasury, Press Releases. Source for the May 12, 2026 notice of proposed rulemaking on capping the basis step-up at $3 million per decedent; verify the specific release and current status before relying on the proposal, which remains proposed at the time of this writing.
7. Internal Revenue Service, About Form 8971, Information Regarding Beneficiaries Acquiring Property from a Decedent. Executor reporting requirements and the "consistent basis" rule for beneficiaries.
8. American College of Trust and Estate Counsel, ACTEC Resources, and the American Bar Association Section of Real Property, Trust and Estate Law. Practitioner commentary on §1014, the community property double step-up, and the 2026 Treasury proposal.