Tax Planning · 6 min read
The Step-Up: Why Some Taxes Disappear at Death — and Some Don't
Under IRC §1014, inherited property takes a new cost basis equal to its value at the owner's death — lifetime capital gains are never taxed. But the reset has edges: traditional IRAs and 401(k)s never step up (heirs owe ordinary income tax), Roth accounts pass tax-free under their own rules, and lifetime gifts carry your original basis with them. Community-property states step up both halves of a couple's property at the first death; common-law states step up only the deceased's half. What steps up, what doesn't, and the common mistakes are below. This is an educational summary, not advice.
Buy a stock for $50,000, watch it grow to $250,000, and sell: you owe capital gains tax on $200,000. Hold it until death, and your heirs' cost basis resets to the $250,000 market value — sell the next day and the taxable gain is roughly zero. That is the step-up in basis, and it is one of the most consequential rules in retirement and estate planning. It is also routinely overread: the step-up applies to some assets and not others, and several of the most common late-in-life money moves quietly forfeit it.
How the Step-Up Works
Under Internal Revenue Code §1014, property inherited from a decedent takes a basis equal to its fair market value at the date of death. (IRC §1014(a); IRS Pub 551.) The unrealized gain accumulated during the owner's lifetime is never taxed as capital gain — not to the estate, not to the heirs. Two mechanics ride along:
- It cuts both ways. An asset worth less than its basis at death steps down — the loss disappears just as an unrealized gain would. (Harvesting losses while living, and holding gains, is the tax-aware ordering.)
- Holding period resets to long-term. Inherited property sold at a gain is treated as long-term regardless of how briefly anyone held it. (IRS Pub 550.)
What Steps Up — and What Doesn't
| Asset | Steps Up at Death? |
|---|---|
| Taxable brokerage accounts (stocks, funds) | Yes |
| Real estate, including a home or rental | Yes |
| Traditional IRA / 401(k) | No — heirs pay ordinary income tax on withdrawals |
| Roth IRA / Roth 401(k) | No step-up needed — qualified distributions are already tax-free |
| Assets given away during life | No — gifts carry the giver's original basis |
The retirement-account exclusion is the one that surprises people most. Traditional IRAs and 401(k)s are “income in respect of a decedent” — deferred ordinary income that the tax code follows into the heirs' hands. A child inheriting a $500,000 brokerage account may owe nearly nothing on a prompt sale; a child inheriting a $500,000 traditional IRA owes ordinary income tax on every dollar as it comes out, generally within ten years. (IRC §1014(c); IRS Pub 559.) Same dollar amount on the statement; very different after-tax inheritances.
Why Giving It Away Early Can Backfire
Lifetime gifts carry the donor's basis with them (“carryover basis,” IRC §1015). Deed the $250,000 house with a $50,000 basis to your kids while living, and they inherit your $200,000 unrealized gain along with the keys; leave it to them at death and the gain resets to zero. For appreciated assets, the common instinct to “get it out of the estate early” often trades a real, certain capital-gains cost for an estate-tax problem the household doesn't actually have: the 2026 federal estate exclusion is $15 million per person — most households will never owe federal estate tax, which makes the step-up, not the exclusion, the tax rule that matters at death. (Rev. Proc. 2025-32.) Cash gifts under the $19,000-per-recipient annual exclusion carry no such cost — the trap is specific to appreciated property.
Married Couples: The State-Line Difference
How much steps up at the first spouse's death depends on state property law. In community property states (Texas, California, Arizona, and several others), both halves of community property step up when either spouse dies — the survivor can reset the basis on the entire portfolio. In common-law states, only the deceased spouse's half of jointly held property steps up; the survivor's half keeps its original basis. (IRC §1014(b)(6); IRS Pub 551.) For long-married couples with large taxable gains, this single rule can swing six figures of eventual tax, and it is worth knowing which regime your assets sit in — especially after a move across state lines.
What This Does Not Mean
The step-up is not a reason to hold a bad investment until death, and not a reason to avoid ever selling — the 0% capital-gains bracket lets many retirees realize gains cheaply while living. It does not shelter retirement accounts, which is precisely why the account type you leave behind matters as much as the amount, and why Roth conversions are partly an estate decision. And it is current law, debated in Washington on and off for years — a plan that depends entirely on one provision surviving decades deserves some flexibility. The rule rewards knowing which assets to spend, which to gift, and which to hold — not holding everything.
Frequently Asked Questions
Q: What is the step-up in basis?
At death, inherited property's cost basis resets to its fair market value on the date of death (IRC §1014). Capital gains accumulated during the owner's lifetime are never taxed as capital gains — heirs who sell promptly owe little or nothing on the appreciation.
Q: Do IRAs and 401(k)s get a step-up?
No. Traditional retirement accounts are “income in respect of a decedent” — heirs pay ordinary income tax on withdrawals, generally emptying the account within ten years. Roth accounts pass tax-free under their own rules rather than through a step-up.
Q: Is it better to gift assets or leave them as an inheritance?
For appreciated assets, the tax mechanics favor inheriting: gifts carry your original basis to the recipient, while bequests reset it. Cash and un-appreciated assets carry no such penalty. The full answer depends on the household — but the basis rules should be on the table before any large transfer.
Q: Does the surviving spouse get a step-up?
Partly — and it depends on the state. Community property states step up both halves of community property at the first death; common-law states step up only the deceased's share of jointly held assets.
The decisions in this guide are what the Retirement Checkup scores — seven questions, two minutes, no email needed to see your score.
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The views and opinions expressed here are those of The Financial Sciences Company as of the publish date and are provided for informational and educational purposes only. They are not personalized investment, tax, or legal advice. The Financial Sciences Company, LLC is an investment adviser registered with the State of Texas. Registration does not imply a certain level of skill or training. Additional information is available in our Form ADV at adviserinfo.sec.gov.
General educational information, current as of 2026. Not personalized investment, tax, or legal advice — figures and rules change. For guidance specific to your situation, talk to a qualified professional.