Step-Up in Basis
Step-up in basis is the adjustment of an inherited asset's tax basis to its fair market value at the date of the decedent's death, effectively erasing any unrealized appreciation and deferred gain for the heirs.
What it means
Under IRC § 1014, heirs receive inherited property with a basis equal to the fair market value at date of death (or the alternate valuation date). Any appreciation during the decedent's lifetime — including deferred gain from prior 1031 exchanges — is effectively erased for the heirs' tax purposes. This is the mechanism behind 'swap till you drop' as a real estate tax strategy: chain 1031 exchanges throughout life, die holding real estate, heirs inherit at stepped-up basis, and the deferred gain is never taxed.
Step-up applies to capital assets, including most real estate. It does not apply to retirement accounts like IRAs or 401(k)s. Estate tax separately may apply to large estates above the federal estate tax exemption.
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