Step-Up in Basis
A tax provision under IRC Section 1014 that resets the cost basis of an inherited asset to its fair market value on the date of the decedent's death, eliminating any capital gains tax on appreciation that occurred during the deceased's lifetime.
The step-up in basis is one of the most significant wealth transfer benefits in the U.S. tax code, and for investors with highly appreciated assets, it can result in the permanent elimination of enormous capital gains tax liabilities across generations. When a person dies and leaves behind appreciated securities or other capital assets, the heir's tax basis in those assets is 'stepped up' to the fair market value on the date of death — not the original purchase price paid by the decedent.
For example, suppose a parent purchased stock for $10,000 decades ago and it has grown to $500,000 at the time of death. If the parent had sold the stock, they would have owed capital gains tax on $490,000 of gain. But because the heir receives the stock with a stepped-up basis of $500,000, selling it immediately after inheriting it generates zero capital gain. The $490,000 of embedded gain is permanently forgiven by the federal tax system.
The rule applies to assets included in the decedent's taxable estate under Section 1014 of the Internal Revenue Code. It covers stocks, bonds, real estate, and most other capital assets. However, assets held in IRAs and 401(k)s do not receive a step-up in basis because they are not 'capital gain' assets in the same sense — their value derives from pre-tax dollars and will be taxed as ordinary income when withdrawn by heirs.
For assets held in community property states, both halves of community property receive the step-up at death, even the surviving spouse's half — a significant benefit over the common law property regime used in most states, where only the decedent's half is stepped up.
The step-up in basis shapes long-term estate planning strategy. Investors with large unrealized gains often choose to hold appreciated assets until death rather than selling during their lifetime, knowing that the gain will escape income taxation entirely. Conversely, gifting appreciated assets during life transfers the donor's original basis to the recipient (the 'carryover basis' rule), meaning the recipient will owe capital gains tax on the full appreciation if they sell the gifted asset.