The step-up in basis is one of the most valuable and underappreciated provisions in the U.S. tax code for estate planning. When you inherit an asset — a home, stocks, a business interest — the tax basis of that asset is “stepped up” to its fair market value at the date of the original owner’s death. This eliminates the capital gains tax on all the appreciation that occurred during the deceased owner’s lifetime. The result can be a tax savings of tens or even hundreds of thousands of dollars for heirs.
How Basis Works Without a Step-Up
To understand the step-up, you need to understand cost basis. When you buy an asset, your cost basis is what you paid for it. When you sell it, you owe capital gains tax on the difference between the sale price and your basis. If you bought stock for $10,000 and it grew to $100,000, your gain is $90,000 — and that is what you owe capital gains tax on when you sell.
If that stock were gifted to you during the donor’s lifetime, you would inherit the donor’s original $10,000 basis, and still owe tax on $90,000 of gains when you sold.
How the Step-Up Works
If instead that stock is inherited at death — rather than gifted during life — your basis is stepped up to the fair market value at the date of death. If the owner died when the stock was worth $100,000, your new basis is $100,000. If you sell immediately, you owe zero capital gains tax. If the stock grows to $110,000 before you sell, you owe tax only on the $10,000 gain that occurred after you inherited it.
The same rule applies to real estate, business interests, and most other capital assets held in a taxable account.
Which Assets Get a Step-Up in Basis?
Most assets included in the deceased person’s taxable estate receive a step-up:
- Stocks, bonds, and mutual funds held in taxable brokerage accounts
- Real estate (primary home, rental properties, land)
- Business interests and partnership stakes
- Collectibles, art, and other capital assets
Assets that do NOT receive a step-up include:
- Retirement accounts (IRA, 401(k), 403(b)): Distributions from inherited retirement accounts are taxed as ordinary income, not at capital gains rates. There is no step-up in basis.
- Annuities: The gain in a non-qualified annuity is taxed as ordinary income to the beneficiary.
- U.S. savings bonds (in most cases)
Step-Up for Community Property vs. Common Law States
In the nine community property states (Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, Wisconsin), both halves of community property owned by a married couple receive a step-up in basis when one spouse dies — not just the half owned by the deceased. This is a double step-up that is not available in common law states, where only the deceased spouse’s share is stepped up.
For a couple who bought a rental property together for $200,000 that is now worth $1 million in California:
- In a community property state: the surviving spouse’s entire basis steps up to $1 million.
- In a common law state: only the deceased spouse’s 50% steps up. The surviving spouse has a blended basis of $600,000 (50% stepped-up at $500,000 + original 50% at $100,000).
Estate Planning Strategies Around the Step-Up
Hold Appreciated Assets Until Death
If you have significantly appreciated assets and your estate is not large enough to trigger federal estate tax (under $13.99 million per individual in 2026 under current law), the optimal strategy for highly appreciated assets may simply be to hold them until death rather than sell or gift them. Your heirs inherit with a stepped-up basis and avoid all the embedded capital gains.
Do Not Gift Highly Appreciated Assets During Life
Gifting an appreciated asset during your lifetime transfers your original basis to the recipient. If you have $500,000 of embedded gains in a stock position, gifting it means your children inherit your low basis and owe capital gains tax when they sell. Holding it and passing it at death eliminates that liability entirely.
Consider Unrealized Loss Assets Differently
The step-up can also be a “step-down” — if an asset has declined in value since purchase, the heir inherits the lower basis. For assets with unrealized losses, it may make more sense to sell during life to capture the tax loss rather than passing the asset at death.
The Step-Up and the Estate Tax
The step-up in basis is separate from the estate tax. Estate tax (federal, and in some states) applies to the total value of a large estate. The step-up in basis is a separate benefit that affects the capital gains taxes heirs pay when they eventually sell inherited assets. You can receive the full benefit of the step-up in basis whether or not an estate tax return is required.
Bottom Line
The step-up in basis is a powerful estate planning tool that effectively forgives a lifetime of capital gains for your heirs. For families with appreciated real estate or investment portfolios, understanding this rule should directly inform gifting decisions and asset transfer strategies. When in doubt, do not gift appreciated assets during life — hold them and let the step-up eliminate the embedded tax liability at death.