Calculating a Step-Up in Basis

Written by Ashley Sutphin Posted On Sunday, 03 March 2024 00:00

A step-up in basis is a term that refers to adjusting the cost basis of an asset someone inherits to its fair market value on the date of the decedent’s death. Cost basis determines the taxes that are owed when the asset is sold if any. Cost basis begins with the price paid for the asset, plus additional costs added over time for improving or maintaining the original asset.

Step-up in basis is also known as stepped-up basis.

  • This happens when the price of an asset you inherit on the date of the decedent's death is above the original purchase price.
  • According to the tax code, there’s a raising of the cost basis to the price that’s higher. This minimizes the owed capital gains taxes if the asset is later sold.
  • The basis tax provision step applies not only to real estate and tangible property but also to stocks, bonds, and mutual funds.
  • If the price of an asset has gone down from what was paid by the owner’s date of death, then the asset cost basis would step down instead of up.
  • Most cost basis adjustments after death end up being step-ups rather than down. This is because when assets are passed to heirs, they’re usually long-term holdings. Financial assets and real estate usually have positive rates of return over the long term.

How to Understand Stepped-Up Basis

The idea of the stepped-up basis is that it resets the cost basis when someone inherits an asset. The reset shifts from when the property was purchased or its prior inheritance to the higher market value on the date of the death of the owner.

If someone buys a share of a stock for $1, and then when that person dies, the market price is $10, the heir’s cost basis is $10 rather than $1. If the heir sells the stock at $10, no capital gains taxes are due.

If you’re in a community property state like California, there’s a double step-up in basis rule. This means that all assets accumulated during a marriage other than gifts and inheritance qualify for a step-up basis.

In other states, if there are assets that a surviving spouse solely owns, they don’t receive the step-up in basis. Jointly owned assets receive half the step-up in basis that they would in a community property state.

To calculate the step-up basis, the cost basis of an asset you inherit goes back to its market value on the decedent’s date of death. If an asset is sold later, the higher new cost basis is taken from the sale price, calculating any capital gains liability.

As you might guess, figuring out a home's historical fair market value can be tricky in and of itself.

Finding a Home’s Historical Fair Market Value

Finally, you may need to work with an expert to figure out the fair market value of a home at some point in the past. For example, if you inherited a home seven years prior, but you’re just now selling it, you will have to do some digging. You might be able to look at property assessment information in public records.

A real estate professional can provide you with an estimate of the Fair Market Value when someone dies. There’s no other way for you to be able to figure it out without working with a professional.

You might be able to look at tax values from the year someone died to get a general idea of the value, but a retroactive appraisal is probably better. In many places, some appraisers work specifically in doing them retroactively. If you have a retroactive appraisal done, you might need to provide records such as inspections, photos, or deeds showing the property's condition. An appraiser can use this as well as historical market data and construction data to determine the estimated market value of the real estate as of the required date.

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