Step-Up in Basis at Death: Community Property vs. Common-Law States

How the Step-Up in Basis Works

Basis is the number a capital gain is measured from: usually what was paid for an asset, plus improvements, minus any depreciation taken. Sell for more than basis and the difference is a gain; sell for less and it is a loss.

Section 1014 replaces that number at death. Property acquired from a decedent takes a basis equal to its fair market value on the date of death. A share bought in 1990 for $40 and worth $400 when its owner dies has a basis of $400 in the hands of whoever inherits it. If the heir sells at $400, there is no gain to report, and the $360 that built up during the owner’s life is never taxed by anyone. The heir’s holding period is automatically long-term, so even a sale the week after the death qualifies for long-term capital gains rates.

Three features of the rule shape everything that follows.

It turns on inclusion, not on tax. The step-up applies to property that passes from the decedent or is included in the decedent’s gross estate for estate tax purposes, whether or not the estate owes any estate tax. With the federal exemption at $15 million per person in 2026, most estates owe nothing and still get the full benefit. Assets in a revocable living trust count as the decedent’s for this purpose and step up the same way. The flip side is that property kept out of the estate, by a completed gift or by certain irrevocable trusts, gets no step-up at all.

It is a reset, not a bonus. The basis moves to date-of-death value in whichever direction that is. An asset worth less than its owner paid steps down, and the loss disappears; neither the estate nor the heirs can ever deduct it. Our guide to tax-loss harvesting and the wash sale rule covers how families handle loss positions before a death, including the capital loss carryforwards that also expire with the person who owns them.

It applies asset by asset. Each holding gets its own date-of-death value. For publicly traded securities, that is generally the average of the high and low trading prices on the date of death. For real estate, a closely held business, or anything else without a market price, it is an appraisal, and the quality of that appraisal is the heirs’ main defense if the basis is ever questioned.

What Does Not Get a Step-Up

Several kinds of property either never step up or lose the step-up because of how they were transferred.

Income in respect of a decedent. Income the decedent earned but had not yet been taxed on keeps its tax character in the heir’s hands, under Sections 1014(c) and 691. The largest example for most families is pre-tax retirement money. A traditional IRA or 401(k) gets no basis reset, and every dollar withdrawn is ordinary income to the beneficiary, generally within ten years for most heirs other than a spouse; our article on the inherited IRA 10-year rule covers the withdrawal timing. The same treatment applies to the gain inside a nonqualified annuity, deferred compensation paid after death, the untaxed profit in an installment note, unpaid wages or commissions, accrued interest on savings bonds, and the net unrealized appreciation in employer stock taken out of a 401(k) under the NUA rules. A Roth account does not step up either, but qualified withdrawals are tax-free, so there is nothing for a step-up to fix.

Lifetime gifts. A gift carries the giver’s basis with it, under Section 1015. Give a child stock worth $300,000 that cost $50,000 and the child holds it at $50,000; hold it until death and the child receives it at full value. For a family well under the estate tax exemption, a lifetime gift of an appreciated asset turns a gain that would have disappeared into one the child will eventually pay. Our breakdown of what the permanent $15 million exemption changes explains why basis, rather than the estate tax, is now the main event in most families’ transfer plans.

Assets in completed-gift irrevocable trusts. Many trusts designed to keep growth out of the estate are grantor trusts, meaning the grantor keeps paying the trust’s income tax while its assets sit outside the estate. In Revenue Ruling 2023-2, the IRS confirmed that assets in such a trust get no step-up at the grantor’s death when they are not included in the gross estate. Some of these trusts give the grantor a power to swap trust assets for others of equal value, and a grantor late in life may use it to bring low-basis assets back into the estate in exchange for cash or high-basis assets; whether that fits a particular trust is a question for the estate attorney.

Gifts that come back within a year. A family might give appreciated property to a spouse or parent who is seriously ill, planning to inherit it back at a new basis. Section 1014(e) blocks this: if appreciated property is given to someone who dies within one year, and it passes back to the giver or the giver’s spouse, the basis stays where it was. The rule generally does not reach property that passes to someone other than the giver or the giver’s spouse (property left in a trust for the giver’s benefit can be treated as passing back to the giver), and it does not apply once the year has passed.

The Double Step-Up: Community Property vs. Common-Law States

Federal tax law decides what a step-up does, but state law decides who owns what, and that is where married couples’ results split.

Common-law states. Most of the country treats marital property as owned according to its title. When spouses hold an account or a house as joint tenants with right of survivorship, or as tenants by the entirety, Section 2040(b) includes exactly half of the value in the first spouse’s estate, regardless of which spouse paid for it (the rule differs when the surviving spouse is not a U.S. citizen, and joint interests created before 1977 can follow an older rule). That half steps up; the survivor’s half keeps its original basis. Property titled in one spouse’s name alone follows the title: it steps up in full if the owner dies first, and not at all if the other spouse does.

Community property states. In Texas, Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Washington, and Wisconsin, most property a couple acquires during the marriage is community property, owned half by each spouse whatever the title says (in some community property states other than Texas, holding community assets as joint tenants can cloud that, so titling still matters there). Section 1014(b)(6) treats the surviving spouse’s half of community property as if it, too, passed from the decedent, as long as at least half of the community interest is included in the decedent’s estate. Both halves step up at the first death, and whatever the survivor still owns steps up again at the second. That is the double step-up.

Consider a couple whose brokerage account, built over 30 years, is worth $2,000,000 and cost $500,000 when one spouse dies. Held jointly in a common-law state, the deceased spouse’s half steps up to $1,000,000 while the survivor’s half keeps its $250,000 of basis, so the survivor’s basis totals $1,250,000 and a sale at $2,000,000 produces $750,000 of gain. Held as community property in Texas or another community property state, both halves step up, the survivor’s basis is $2,000,000, and a sale leaves $0 of taxable gain. Titled in one spouse’s name in a common-law state, the result depends on who died: $2,000,000 of basis if the account owner died first, or the original $500,000, and $1,500,000 of gain on a sale, if the survivor was the owner.

To put a number on the gap, suppose the survivor is 63, sells the following year when she files as a single taxpayer, and has other taxable income of $100,000 after the $16,100 standard deduction, all of it ordinary income rather than investment income. Under 2026 rates, the $750,000 gain stacks on top of that income: $445,500 of it is taxed at 15% ($66,825) and the remaining $304,500 at 20% ($60,900). The 3.8% net investment income tax applies to the amount by which her modified adjusted gross income of $866,100 exceeds $200,000, or $666,100 (less than her $750,000 of investment income, so the smaller figure controls), adding $25,312. The federal bill on the common-law sale is about $153,000; the community property sale owes nothing. A sale in the year of the death could still be reported on a joint return, with wider brackets, which lowers the bill without changing the gain. Because Medicare premiums look back two years, a sale at 63 can also raise her premiums at 65. Texas has no income tax, so the federal number is the whole cost there; a survivor in a state with an income tax would add that state’s tax on the same gain. For a home, the home sale exclusion can absorb some of what the half step-up leaves behind: a surviving spouse who sells within two years of the death, and has not remarried, can generally still exclude up to $500,000 of gain, the married amount, if the couple met the requirements just before the death.

The double step-up cuts the other way for community property that has lost value: both halves step down, and the survivor’s share of the loss disappears along with the decedent’s. That is why loss positions get attention before a death in community property states.

Rental Property and Business Interests

Rentals. For real estate, the step-up does more than erase the gain. Depreciation taken over the years lowers basis, and on a sale part of the gain is taxed as recaptured depreciation. A step-up to fair market value wipes out that recapture along with the rest of the gain, and the new owner starts depreciating the building again from its date-of-death value. In a community property state, both halves of a community-owned rental get that reset at the first death; in a common-law state, the survivor’s half keeps its depreciated basis and the recapture built into it. Our article on depreciation recapture when selling rental property walks through what that recapture costs, and the passive activity loss rules decide what happens to losses that were suspended while the owner was alive.

Rentals held in an LLC. Many investors hold rentals in a limited liability company taxed as a partnership. There, the step-up applies to the heir’s interest in the company, not automatically to the buildings it owns. Unless the partnership has a Section 754 election in effect, or makes one with its return for the year of the death, the property inside keeps its old basis, depreciation continues on the old numbers, and a later sale by the partnership reports gain that the step-up was supposed to erase. The election is a short statement attached to the partnership return, but it binds the partnership for later years too, so it belongs on the checklist for the first return after a death. In Texas and other community property states, an LLC owned only by a married couple as community property can be treated as a disregarded entity instead of a partnership, and when it is, the step-up reaches the buildings directly.

S corporations. Stock in an S corporation steps up, but the company’s own assets do not, and no election changes that. If the company later sells its assets, the gain is computed inside the company at its old basis and flows through to the heirs, even though their stock basis already reflects full value. The heirs generally recover the difference only as a capital loss when the company liquidates, and that loss may not offset gain that was taxed as ordinary income. For owners whose business is their largest appreciated asset, that mismatch is worth modeling before a sale or a transition.

Texas: Separate Property, Community Property, and the Paper Trail

In Texas, only community property gets the double step-up, so the character of each asset is worth knowing before a death rather than reconstructing after one.

What is separate. Property a spouse owned before the marriage, and property received during the marriage by gift or inheritance, is that spouse’s separate property. Separate property owned by the spouse who dies steps up in full, because all of it is in that spouse’s estate. Separate property owned by the surviving spouse does not step up at the first death at all. An inheritance the survivor kept separate keeps its old basis until the survivor’s own death.

The presumption. Texas presumes that property either spouse holds during or at the end of the marriage is community property, and a spouse claiming otherwise has to prove it by clear and convincing evidence. In practice that means tracing: records that show where the money came from. Separate funds mixed into a joint account until they can no longer be traced become community property by default.

Income from separate property. Unless the spouses agree otherwise in writing, dividends, interest, and rent earned on separate property during the marriage are community property. A brokerage account inherited years ago and left to reinvest its dividends can become a blend of separate principal and community reinvestments, and only the community share gets the double step-up.

Converting separate property to community. Since a 1999 amendment to the Texas Constitution, spouses can agree in writing to convert separate property into community property. A conversion can turn a spouse’s separate holdings into property that steps up in full at either death, which is why it comes up in basis planning. It is also a gift of half the property to the other spouse, so if that spouse dies within a year and leaves it back, the one-year rule described above can deny some or all of the step-up. It also changes who owns what: the converted property becomes subject to division in a divorce, can become reachable by either spouse’s creditors depending on how it is managed, and is half the other spouse’s to leave by will. The statute sets specific requirements for the agreement, and the tax savings is one input among several for the couple and their estate attorney. The reverse, a partition of community property into separate property, is how some couples protect loss positions from a full step-down.

Moving Between States, and Opt-In Trusts

Families move, and property generally keeps the character it had under the law of the state where the couple lived when it was acquired.

Leaving a community property state. A couple who built their savings in Dallas or San Antonio and retires to a common-law state generally brings community property with them; it does not become separate just because they moved. Community character has to exist at death for the double step-up to apply, so the paper trail matters more over time as accounts are retitled, combined, and reinvested. More than a dozen common-law states have adopted the Uniform Disposition of Community Property Rights at Death Act, which preserves that character at death, and some couples hold community assets in a joint revocable trust that identifies them as community property.

Moving to Texas. The reverse does not happen automatically. Property a couple acquired while living in a common-law state remains the separate property of whichever spouse owned it. Texas reaches that property as if it were community only when dividing property in a divorce, not at death. New Texans who want the double step-up on assets they brought with them generally need a written conversion agreement, with the trade-offs described above.

Opt-in community property trusts. Alaska, Florida, Kansas, Kentucky, South Dakota, and Tennessee let married couples transfer assets to a community property trust and elect community treatment, generally including residents of other states who use an in-state trustee (Kansas joined the list when its law took effect July 1, 2026). The aim is the double step-up, and the one-year rule applies here too when one spouse contributes more than half of what goes in. The state statutes are real, but the federal result is not settled. Neither the IRS nor any court has ruled on whether elective community property qualifies under Section 1014(b)(6), and in 1944 the Supreme Court refused to recognize an elective community property system for federal income tax purposes, in a case about splitting income rather than basis. For a couple with large embedded gains, the question is worth putting to an estate attorney, with the uncertainty priced in.

Common-Law Couples: Titling and the One-Year Rule

This section draws on Jeffrey Levine’s work at Kitces.com on maximizing the step-up between spouses, which we’d recommend reading in full.

In a common-law state, the step-up follows the title. Joint ownership produces a half step-up at the first death; property in the deceased spouse’s name alone gets a full one. A couple who expects one spouse to die first, after a serious diagnosis for instance, can move appreciated assets out of joint accounts and the healthier spouse’s name into the name of the spouse expected to die first, who then leaves them back to the survivor at a full step-up. Gifts to a spouse who is a U.S. citizen are free of gift tax and carry over basis, so the transfer itself costs nothing in tax.

Three conditions decide whether it works. The first is the one-year rule: if the spouse who received the gift dies within a year of it, Section 1014(e) denies the step-up on property that comes back to the giver, so the move has to happen early enough to have a real chance of clearing that year. The second is control: once the assets are retitled, they belong to the receiving spouse, who can leave them to anyone, which is a real concern in second marriages and blended families. The third is long-term care: Medicaid generally counts a married couple’s assets together no matter whose name they are in, but once one spouse qualifies, the assets the couple keeps generally need to sit in the healthy spouse’s name, the opposite of this strategy, and a long spend-down can consume the very assets the plan was meant to step up. None of this is needed for community property, which steps up in full without retitling.

A note on adding children to a title. Parents sometimes add an adult child to a deed or account as a joint owner to avoid probate. For a joint tenancy with right of survivorship with someone other than a spouse, Section 2040(a) includes the property in the estate in proportion to who paid for it, so a parent who paid for everything generally still gets the full value included, and a full step-up passes to the child. The costs of adding a child are elsewhere: the child’s creditors and divorce can reach the property, the parent gives up sole control, and adding a child to a deed is generally a gift that may need to be reported. A transfer-on-death designation or a revocable trust generally avoids probate without those exposures.

Older Estate Plans and the Second Step-Up

Many plans drafted before portability arrived in 2011, when exemptions were far lower, split a couple’s assets at the first death. The deceased spouse’s share funds a bypass trust, sometimes called a credit shelter or B trust, built to stay out of the survivor’s estate. The bypass trust gets the step-up at the first death. Because it stays out of the survivor’s estate, it does not get a second one, and every dollar of growth after the first death is carried at the first-death basis. A marital trust that qualified for a QTIP election works differently: it is included in the survivor’s estate and steps up again at the second death.

For a family well below the $15 million exemption, a mandatory bypass trust can cost more in lost basis than it saves in estate tax. It can still earn its place: a state estate tax where the couple lives, a second marriage where each spouse wants to protect children from a prior one, or a need for creditor protection. Plans that let the survivor decide at the first death, through a disclaimer or a trust that can be made a QTIP after the fact, keep both options open. Our article on estate planning beyond a will covers the documents themselves, and for couples whose documents predate 2011, whether the plan forces a bypass trust is one of the first questions worth asking.

After a Death: Documenting the New Basis

The step-up is only as good as the record behind it. Most families owe no estate tax, and for them two rules that sound helpful do not apply. The alternate valuation date, which values the estate six months after death, can be elected only when it lowers both the gross estate and the estate tax, so an estate that owes no tax cannot use it. The basis consistency rules, which tie heirs to values reported on an estate tax return, apply only to property whose inclusion increased the estate tax. For everyone else, the heirs’ basis rests on whatever evidence of date-of-death value exists when they eventually sell, sometimes decades later.

That makes the paperwork a planning task. Date-of-death statements for every brokerage position, qualified appraisals for real estate and business interests, and a record of how community and separate property were characterized are cheap to assemble in the months after a death and hard to rebuild later. When an estate tax return is filed to elect portability, which is often worth doing even when no tax is due, the values reported on it become part of the same record, though a return filed only for portability may report estimated values for property passing to a spouse, so it does not replace appraisals.

How We Think About It

We lean toward treating basis as a family asset, measured by its ultimate tax savings across every state the family touches, without losing sight of the rest of the plan. For families under the $15 million exemption, holding appreciated assets for the step-up usually beats lifetime gifts or late-life sales, but not when the holding itself is the risk. A concentrated position, a property the survivor cannot manage, or a need for cash during a long illness can outweigh the tax, and the answer comes from modeling both paths rather than from the rule alone.

We lean toward knowing the character and title of every significant asset before a death, not after. In Texas, that means a paper trail between separate and community property; in common-law states, it means knowing whose name each appreciated asset is in; for families who have moved, it means confirming that community property still reads as community.

We lean toward treating the tools that change who owns what (conversion agreements, retitling between spouses, and opt-in community property trusts) as decisions in which the tax savings is one input alongside control, divorce and creditor exposure, long-term care, and legal uncertainty. The tax is the easy part to measure. And we lean toward reviewing older plans that force a bypass trust at the first death, since for many couples the second step-up is now worth more than the estate tax the trust was built to avoid.

Common Questions

Does community property get a double step-up in basis?

Yes, in the nine community property states. Under Section 1014(b)(6), when the first spouse dies, the surviving spouse’s half of community property is treated as if it passed from the decedent, so both halves reset to date-of-death value, as long as at least half of the community interest is included in the decedent’s estate. Whatever the survivor still owns steps up again at the second death. Separate property does not get the same treatment; it steps up only if it belonged to the spouse who died.

Does a surviving spouse get a full step-up in a common-law state?

Only on property the deceased spouse owned outright. Property the couple held as joint tenants with right of survivorship or as tenants by the entirety is included half in the first spouse’s estate, so only that half steps up and the survivor’s half keeps its original basis. Property titled in the survivor’s name alone does not step up at the first death at all.

What assets do not get a step-up in basis at death?

Income in respect of a decedent does not: traditional IRAs and 401(k)s, the gain in a nonqualified annuity, deferred compensation, installment notes, and unpaid wages. Neither do assets given away during life, which carry the giver’s basis; assets in irrevocable trusts that sit outside the estate; or appreciated property given to someone who dies within a year and leaves it back to the giver.

Does the step-up apply if no estate tax is owed?

Yes. The step-up depends on whether property passes from the decedent or is included in the estate, not on whether any estate tax is due. With the federal exemption at $15 million per person in 2026, most estates owe nothing and still receive the full step-up.