What is a stepped up basis?
A step-up in basis offers a significant tax advantage to individuals inheriting stocks, ETFs, mutual funds, homes, and other property. If eligible, the inherited property’s tax basis is adjusted to its market value on the decedent’s date of death. This can save heirs a substantial amount in taxes as the unrealized gain between the purchase price and date of death value is never taxed.
Unpacking the step-up in basis rules at death
A stepped up basis at death can dramatically increase the after-tax value of inherited stocks and property. The step-up on inherited assets also means heirs automatically qualify for more favorable long-term capital gains tax treatment, regardless of the decedent’s actual holding period.
Various types of inherited property can qualify for a step up in basis, such as real estate, stocks, bonds, ETFs and mutual funds. Especially for taxpayers who die with significant unrealized taxable gains, this can reduce if not eliminate the capital gains tax liability for the beneficiary. A stepped up basis can apply to assets owned individually, jointly, or in certain types of trusts, like a revocable trust.
If you’ve received an inheritance you may have questions about the tax treatment of inherited stocks and other property, so consider engaging a financial advisor for inherited wealth to discuss your situation.
Basis examples: Step-up, step-down, carryover
Each scenario below assumes Zach buys stock in Morris Company for a total of $10,000.
Step up in basis
Zach dies and leaves you his shares of Morris Co. At Zach’s death, Morris was trading on the stock market at a fair market value of $100,000. As a result, your cost basis on the inherited shares is stepped-up to the value at Zach’s death, or $100,000. So the entire unrealized gain, $90,000 in this example, is wiped out.
The asset is not taxable to the beneficiary until it is sold. At that time, any further gain or loss from the stepped-up value will be taxable to the inheritor individually. So if you, the beneficiary, later sell the stock for $185,000, you have an $85,000 long-term capital gain. Without the step-up in basis, the realized gain would be $175,000. In this example, while the unrealized gain between the original purchase price and the stepped-up value is permanently tax-free, the heir would still incur a sizable taxable gain upon sale at their own individual tax rates.
Although this hypothetical inheritor example uses shares of stock, the same logic would apply for an inherited home.
Regardless of when Zach actually purchased the shares, the nature of any subsequent gain or loss when the inherited asset is sold is considered long-term.
Step down in basis
Zach dies when Morris Co is worth $5,000. If the executor elects an alternative valuation date to value all estate assets, rather than the date of death, then you would receive a step-down in basis on the inherited stock. Your cost basis would be $5,000. If you sell the stock for $4,000, you would have a $1,000 long-term capital loss, subject to the regular rules and limits.
As explained above, unless the asset is sold right away, any further gain or loss will be taxable to the beneficiary on the difference between their inherited stepped-down cost basis and the sale price. So if you sell the shares for $7,000, you’d have a $2,000 long-term gain. Zach’s unrealized $5,000 long-term capital loss dies with him, it can’t be deducted.
The alternative valuation date is generally 6 months after death. This election is only permitted if: 1. it decreases the value of the gross estate 2. it decreases the total federal estate tax liability 3. only federally taxable estates can make the election.
Any further gain or loss incurred by the heir will be considered long-term, regardless of the actual holding period.
Cost basis carryover on gifts made during life
If Zach gifted the shares while living, Zach’s cost basis in the stock would carry over to you, along with his actual holding period.
Assets eligible for a step-up in basis
Non-retirement assets like stocks in a brokerage account, inherited home, antiques, art, collectables, or other real estate, are generally eligible for a step-up in cost basis.
Eligibility for a stepped-up cost basis is based on the type of asset inherited, ownership at death, and state laws. Whether the decedent was your spouse, parent, or other type of non-spouse doesn’t really matter. As noted below, community property states are an exception.
Assets not eligible for a step-up
Retirement accounts (401(k), IRA, 403(b)) do not receive a stepped up basis. Instead, the taxpayers who inherit these accounts will have the same income tax treatment as the prior owner. Withdrawals from retirement accounts are never taxed as capital gains, but rather as ordinary income (or if a Roth account meeting the requirements, tax free). This is why sometimes it’s more advantageous to leave a brokerage account to heirs instead of a retirement account. Annuities do not get a step-up and cash is not eligible either.
It’s also worth noting that the step-up in basis doesn’t just happen automatically. You’ll need to fill out paperwork with the custodian if there isn’t a financial advisor managing the accounts. Inherited real property, like a house, will need to be appraised by a professional. Similarly, interests in a closely held business will also need a professional valuation.
Inheriting a Trust Fund: Distributions to Beneficiaries
Do You Pay Tax on an Inheritance?
Do assets owned in a trust receive a step-up in basis?
Yes and no. If the asset was held in a revocable (or living) trust before the owner died, it will likely be eligible for a step-up in cost basis. Financial accounts aren’t the only assets that can be held in trust. A house can be put in trust and other types of real property as well.
Beneficiaries of an irrevocable trust may not be eligible for a step-up in basis. At a high level, if the asset is part of the decedent’s estate it’s typically eligible for a step-up. This can get very tricky so it’s important to work with the estate planning attorney settling the estate. Assets that bypass the estate through a trust or another mechanism are usually not eligible. We strongly advise consulting an attorney to discuss your situation versus do-it-yourself online wills and trusts.
How basis adjustments work in common law vs community property states
Spouses in common law states
For married couples, state law is very important in determining cost basis. These rules can be very complex and nuanced so it’s essential to consult with a tax professional and trust and estates attorney to understand the specific rules and current law in your state. Darrow Wealth Management does not provide tax or legal advice.
At a very high level, in common law (separate property) states, surviving spouses that owned property jointly with their late spouse generally receive a step-up in basis on 50% of the joint asset. Note that anyone owning an asset jointly with the decedent would be eligible for the same treatment for tax purposes in this example, it doesn’t have to be a spouse.
For example, a couple owns a home they bought for $400,000. It’s worth $1,000,000 when one spouse dies. The surviving spouse’s basis would be adjusted to $700,000 ($500,000 + $200,000).
Now, if the home was owned solely by the deceased spouse, the survivor’s basis would be $1M. Conversely, if the survivor owned the home alone, there’d be no adjustment to cost basis when the first spouse died.
Community property states
In community property states (Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin), the basis rules are different. Though there can be exceptions (again consult a tax advisor and attorney!), in general, assets in these states are considered to be owned 100% by each spouse, regardless of how the account/asset is titled. This is a double step-up.
In the previous example, different forms of ownership led to three different cost basis outcomes. But in a community property state, regardless of which spouse survives, for tax purposes, he or she would (likely) have a stepped up basis of $1M in the home. In other words, even a survivor without prior ownership in the inherited property could sell without paying a dollar in capital gains tax.
What’s The Best Thing To Do With Inherited Money?
Double step up in basis
Yes, depending on how your estate plan is structured. But it’s possible to get a step-up at the first death, then another when the survivor dies. Keep in mind, that can also mean paying estate tax on the assets eligible for the second step-up.
As with anything, this is a trade-off. A credit shelter trust only receives the first step up, but it can avoid state or federal estate tax. Therefore, it isn’t just about considering assets at their current value, but also which assets are likely to appreciate and the best vehicle to achieve legacy goals.
Step-up in basis planning strategies
Some strategies to consider speaking with your trust and estate attorney and wealth advisor include:
- Bequeathing highly appreciated assets (homes, stocks, and other assets) to family instead of selling the asset during your life. All the unrealized appreciation can get stepped-up to the value at death.
- Realize losses during life. The ability to deduct unrealized losses is lost when the taxpayer dies. So consider realizing losses by selling assets that have gone down in value.
- Strategic lifetime gifting. Cash and retirement accounts aren’t eligible for a step-up in basis. So when crafting a lifetime gifting strategy, consider the best assets to give away during your lifetime. This can also include strategically gifting shares of stock to family and having them realize the gain if in a lower tax bracket.
- Use a team approach to planning. Estate and gifting strategies should be analyzed with the support of your attorney, tax advisor, and financial advisor. Involving the entire advisory team in major financial decisions helps ensure any planning strategy is aligned with your financial situation, tax picture, life changes, and goals. For example, leaving family low basis ETFs and mutual funds might compete with your charitable giving strategy if you are using these positions to make annual tax-deductible contributions to a donor-advised fund. As a team, also consider estate tax liquidity issues, particularly when passing down an inherited family home. Although heirs can benefit from a step-up, if they do not plan to sell the property, the team should consider the liquidity needs of the estate and beneficiaries in the strategy.
Help managing a large inheritance
A large inheritance can significantly change your financial situation and make financial goals more attainable. Darrow Wealth Management is a fee-only financial advisory firm and full-time fiduciary. If you are receiving sudden wealth through an inheritance, our team of inherited wealth advisors can help. By integrating financial planning with investment management, our goal is to help you build and grow your wealth.
Speak with an Advisor
This article is for informational purposes only and should not be misinterpreted as personalized advice of any kind or a recommendation for any specific investment product, financial or tax strategy. This is a general communication and should not be used as the basis for making any type of tax, financial, legal, or investment decision.
[Last reviewed August 2026]
