What Are the Rules for Death and Capital Gains Taxes?

Death taxStep-up in basis doesn’t depend on whether or not you pay state or federal estate or inheritance tax on the real property.

It’s not uncommon for a family to have a cabin or vacation home in another state. It’s also not uncommon for the parent and owner of that vacation home to ask if the out-of-state vacation home receives a step-up in basis when his or her children inherit it.

The IRS says that to determine if the sale of inherited property is taxable, you must first determine your basis in the property. The basis of property inherited from a decedent is generally one of the following:

  • The fair market value (FMV) of the property on the date of the decedent's death.
  • The FMV of the property on the alternate valuation date, if the executor of the estate chooses to use the alternate valuation.

They refer to the Instructions for Form 706, United States Estate (and Generation-Skipping Transfer) Tax Return. The IRS suggests that for information on the FMV of inherited property on the date of the decedent’s death, you should contact the executor of the decedent’s estate. The agency also notes that in 2015 Congress passed a new law that, under certain circumstances, requires an executor to provide a statement identifying the FMV of certain inherited property to the individual receiving that property.

When a person passes away, the property he or she owns or controls, like what’s included in their taxable estate, will be valued as of the date of death. Children who inherit the property will take the property or asset with the date of death value as his or her basis.

The step-up in basis doesn’t depend on whether or not you pay state or federal estate or inheritance tax on the property.  However, if you file a federal estate tax return, the value of the property reported on the return must be the same as the value reported by the children for the property as their basis in reportable transactions.

If a person only owns part of the real property at his or her death, it’s possible only that portion will get a step-up in basis.

With the owner living out-of-state, it’s important that the owner and the heirs understand the so-called "exit tax." For example, when New Jersey residents sell their homes and prepare to move out of state, they must pay a standard tax rate on the profit from the sale. This tax must be paid when you move, not when you’d usually file a state income tax return.

Reference: nj.com (July 24, 2018) “Cost Basis for and Inherited Vacation Home”


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