Sooner or later, you may sell the property you inherited from a parent or loved one. The sale may result in a taxable loss or gain, whether the property is an investment, an antique, land, or something else. But how that loss or gain is calculated may surprise you.
Your Basis
When you sell a property you purchased, you generally figure loss or gain by comparing the amount you received in the sale transaction with your cost basis as adjusted for specific items, like depreciation. Inherited property is treated differently. The basis of your inherited property is typically its fair market value on the date of death instead of cost. It may also be based on an alternate valuation date elected by the estate’s executor, typically six months after the date of death.
These basis rules simplify matters since old cost information can take time to pin down. More importantly, the ability to cover a “stepped up” basis for the property’s price can save you federal income taxes. Why? Any property value growth that ensued before the date of death will not be subjected to capital gains tax.
For example, assume Uncle Harold left you stocks he bought in 1986 for $5,000. The shares were worth $45,000 at his death, and you recently sold them for $48,000. Your basis for calculating your capital gain is stepped up to $45,000. Due to the step-up, your capital gain on the sale is just $3,000, the difference of $45,000 basis subtracted from the $48,000 sale proceeds. The increase in the value of the shares during your Uncle Harold’s lifetime, which is $40,000, isn’t subject to capital gains tax.
Suppose a property’s date-of-death value is less than its original purchase price. In that case, the basis must be lowered to the date-of-death value instead of a step-up basis.
Holding Period
Automatically, the capital gains from selling inherited property will qualify for long-term capital gain treatment regardless of how long the decedent or you owned the property. It will offer a potential income tax advantage as long-term capital gain will be taxed lower than the short-term.
Be cautious if you inherit a property from someone who has passed since 2010; different tax basis rules might apply depending on the situation.
