Capital Gains Tax on Inherited Assets

When an asset is sold, the owner owes capital gains tax on the profit. For these purposes, "profit" is the excess of the sales price over the owner's tax basis in the property. If the owner bought the property, his or her tax basis is generally equal to what he or she paid for it. Under the current rules, a beneficiary who inherits an asset is generally allowed to use the asset's value on the date the deceased owner died as his or her tax basis in the asset. Because of this "step up" in basis, only the post-death appreciation is subject to income tax if the beneficiary decides to sell the asset. In addition, inherited assets are treated as if held long-term by the beneficiary, even if the assets would have received short-term treatment in the hands of the decedent.

For assets inherited from decedents who died during 2010, the beneficiaries' basis will depend on whether the estate was subject to the estate tax or elected out of the tax and chose instead for the beneficiaries’ basis to be determined under the modified carryover basis regime.  Estates with assets valued at $5 million or less generally will elect to be subject to the estate tax system  since an estate can have up to $5 million of assets and still pay no tax, and the beneficiaries would enjoy a basis equal to the properties’ fair market value at date of death.  Accordingly, there would be no taxable gain if the assets were immediately sold.  Regardless of which method the executor selects—estate tax with stepped up basis for the assets or the modified carryover basis—a beneficiary should contact the executor for information as to the basis of assets that he or she inherits.