The cost basis for real estate is used to calculate the profit gained when you sell a property. The cost basis is typically the purchase price, but for inherited real estate, that is not an option, because you never actually purchased it. Therefore, special rules apply in determining your cost basis, depending on when the decedent died. The cost basis stepped up to the fair market value on the date of the decedent's death.
In order to calculate the cost basis for inherited real estate, you will use either the value of the property on the date of the original owner's death, or a date selected by the executor no later this six months after the death.
The Date of Death
Take note of when the decedent passed away. If he died in 2018, then the cost basis carries over, so you will use the decedent's original cost basis. This might be the purchase price or a step up cost basis, if he inherited the property. In addition, there is a total step-up basis of $1.3 million, or $4.3 million for surviving spouses, which increases the cost basis. This basis increase is applied to the total inheritance, not just real estate, so you may choose to use all, or none, of it on the real estate. As an example, if the owner's cost basis was $250,000, but the property appreciated to $2.5 million, your cost basis would be $250,000, plus $1.3 million. This is assuming you elected to apply the entire cost basis addition to real estate, and were not a surviving spouse. Therefore, your cost basis would be $1.55 million.
Exploring Alternative Dates
Contact the executor of the will and ask if he's elected to use an alternate date when determining cost basis. The executor may elect to use a date six months after the decedent's death. If he did not elect to use an alternate date, then the date of death is used.
Real Estate Appraisal
Contact a real estate appraiser and request an appraisal be performed for that date. This appraisal tells you the value of the property on that date, which serves as the cost basis. For example, if a property was original purchased for $250,000 and it appreciated to $2.5 million by the date of death, or the alternate date, your cost basis would be $2.5 million.
Capital Gains When Selling the Property
If you decide to sell your inherited property, your cost basis is the date of death or the alternate date. That means if you sell the house within a short period of time, your capital gains tax is likely to prove minimal. For example, if your cost basis is $2.5 million, but you sell the house for $2.6 million, you will only pay capital gains tax on that extra $100,000.
- Internal Revenue Service: Publication 551 - Inherited Property
- Find Law; Tax Basis on Inherited and Gifted Property; Goldsmith Law Firm
- LA Times: Figuring out capital gains when an inherited house is sold. Spoiler: They're probably small
- IRS. "Tax Treatment of Property Acquired From a Decedent Dying in 2010," Page 3. Accessed Aug. 17, 2020.
- IRS. "Is Money Received From the Sale of Inherited Property Considered Taxable Income?" Accessed Aug. 17, 2020.
C. Taylor embarked on a professional writing career in 2009 and frequently writes about technology, science, business, finance, martial arts and the great outdoors. He writes for both online and offline publications, including the Journal of Asian Martial Arts, Samsung, Radio Shack, Motley Fool, Chron, Synonym and more. He received a Master of Science degree in wildlife biology from Clemson University and a Bachelor of Arts in biological sciences at College of Charleston. He also holds minors in statistics, physics and visual arts.