Depreciation Recapture on Inherited Property (Step-Up in Basis)

The step-up resets the clock

When you inherit property, its basis is generally "stepped up" to fair market value at the date of death. That reset can eliminate the deferred capital gain and the depreciation recapture the previous owner would have owed.

Depreciation starts fresh

As the heir, you begin a new depreciation schedule based on the stepped-up basis. The prior owner's accumulated depreciation doesn't carry over to you.

Why this drives estate planning

This is the engine behind "swap till you drop": defer via 1031 exchanges during life, then let heirs take a step-up at death — potentially erasing a lifetime of deferred recapture.

Where the step-up comes from

The rule lives in Internal Revenue Code Section 1014: property acquired from a decedent takes a basis equal to its fair market value on the date of death (or the alternate valuation date — six months later — if the estate elects it on Form 706). Because both the deferred capital gain and the deferred depreciation recapture are measured against the old basis, resetting basis to current market value wipes the slate clean. The heir starts as if they'd just bought the property at today's price.

This is distinct from a lifetime gift, where the recipient generally takes the giver's carryover basis — including all the depreciation and built-in recapture. Inheriting and being gifted the same property produce very different tax outcomes.

A worked example: recapture before and after death

Suppose your parent bought a rental for $200,000, allocated $160,000 to the building, and claimed $90,000 of depreciation over the years, leaving an adjusted basis of $110,000. If they had sold it for $500,000 while alive, they'd owe recapture on the $90,000 of depreciation (up to 25%) plus capital gain on the appreciation above their original basis — a substantial bill.

Instead, they hold it until death, when it's worth $500,000. Under Section 1014 your basis as the heir steps up to $500,000. The $90,000 of prior depreciation and the built-in appreciation simply vanish for tax purposes. If you sell soon after for around $500,000, your taxable gain — and your recapture — is close to zero.

Depreciation resets — and so does the recapture clock

As the heir you don't inherit the decedent's depreciation schedule. You begin a new schedule on the depreciable portion of your stepped-up basis, over 27.5 years for residential rental property (39 for commercial), starting when the property is placed in service in your hands. From that point forward, only the depreciation you claim is subject to recapture when you eventually sell — the decedent's prior depreciation is gone.

Practically, allocate the stepped-up basis between land and building (an appraisal at date of death helps), because only the building portion is depreciable and only that portion generates future recapture.

Community property gets a double step-up

Married couples in the nine community-property states (and a few others by election) can get an even better result. When one spouse dies, both halves of community property — the decedent's and the survivor's — generally step up to fair market value under Section 1014(b)(6). By contrast, in common-law states only the deceased spouse's share (typically half of jointly owned property) steps up; the survivor's half keeps its old basis and its built-in recapture. For a couple holding a highly appreciated, heavily depreciated rental, the difference can be large, and it's worth knowing which regime applies to your title.

Estate tax is a separate question

A stepped-up basis is an income-tax benefit; it doesn't mean the property escapes the federal estate tax. Estates above the exemption (historically indexed and quite high, but subject to change by Congress) may owe estate tax on the property's date-of-death value. Most estates fall under the exemption and owe nothing, but large real-estate portfolios can trigger it. The two systems operate independently — you can get a full step-up and still have an estate-tax filing obligation on a very large estate, and vice versa.

Planning implications for aging investors

The step-up is why many long-term investors are advised not to sell highly appreciated, heavily depreciated rentals late in life. Selling triggers recapture and capital gain immediately; holding until death hands heirs a clean basis. The trade-offs: your heirs must actually inherit the asset (a properly titled estate or trust matters), the property is exposed to estate tax if the estate is large, and tax law can change. Coordinate a 1031-then-hold strategy with an estate-planning attorney, and revisit it if Congress alters the step-up rules — proposals to curtail Section 1014 surface periodically.

The heir's fresh start, in numbers

To see how completely the reset works, follow one property through. Your parent bought a duplex in 2000 for $180,000, allocated $150,000 to the building, and by 2026 had claimed the full $150,000 of depreciation — adjusted basis down to $30,000 (land value). The property is now worth $520,000. Had they sold, they'd have faced recapture on $150,000 (up to 25%, ~$37,500) plus capital gain on roughly $340,000 of appreciation.

They die in 2026 and you inherit it. Your basis steps up to $520,000. You allocate, say, $420,000 to the building and start a brand-new 27.5-year depreciation schedule (~$15,000/year). The $150,000 of your parent's depreciation and the $340,000 of appreciation are simply erased for income-tax purposes. Sell it next month for $520,000 and your gain — and recapture — is essentially zero.

What if you keep the inherited rental?

Many heirs hold and continue renting. That's fine, but understand what resets and what accrues. Your new depreciation clock starts at the stepped-up basis, and only the depreciation you claim from the inheritance date forward is subject to recapture when you eventually sell. If you hold for 15 years and claim $225,000 of fresh depreciation, that $225,000 becomes your unrecaptured Section 1250 gain at your sale — the decedent's history is irrelevant. So the step-up is a one-time cleansing; from there you're building a new recapture balance just like any other owner, and the same planning tools (1031, hold-to-death, installment sales) apply to you going forward.

Placed-in-service date and depreciation mechanics for heirs

When you inherit a rental you're already using in a trade or business, you generally treat it as placed in service on the date you acquire it (date of death, or alternate valuation date if elected), and you depreciate the building portion of the stepped-up basis over 27.5 years (residential) or 39 years (commercial) using the mid-month convention. You do not pick up where the decedent left off, and you don't use their remaining recovery period. Get a date-of-death appraisal that separately values land and improvements — the land allocation isn't depreciable, and a defensible split both maximizes your deductions and documents your basis if the sale is ever examined.

Basis records: what to gather and keep

Because the step-up is measured at date of death, documentation is everything. Keep the estate appraisal or a qualified valuation as of the date of death (or the alternate valuation date), any Form 706 the estate filed and the values reported on it, and records of the land-versus-building allocation you used to start depreciating. If the estate wasn't large enough to file Form 706, you still need a credible valuation to support your stepped-up basis — a real-estate appraisal, comparable sales, or a broker's opinion prepared close to the date of death. Reconstructing this years later, when you sell, is far harder, so capture it while the paper trail is fresh.

Common misconceptions about inherited-property recapture

A few myths cause real errors. "I have to pay my parent's deferred recapture." Generally no — the step-up eliminates it. "A gift is just as good as an inheritance." No — a lifetime gift carries the giver's low basis and their built-in recapture, so gifting an appreciated, depreciated rental hands the recipient a tax time bomb the step-up would have defused. "The step-up also avoids estate tax." No — those are separate systems. "I can keep depreciating on the old schedule." No — you start fresh at the stepped-up basis. When in doubt, get the date-of-death value nailed down and talk to a tax professional before you sell or transfer.

Selling an inherited rental soon after you receive it

Many heirs simply want to sell. The good news is that a sale shortly after inheritance usually produces little or no tax, because your basis was just reset to fair-market value — there's minimal gain between the date-of-death value and a sale price a few months later. Any small gain is generally treated as long-term regardless of how briefly you held it, thanks to a special rule for inherited property, so you get the preferential capital-gain rate. Watch two things: subtract selling costs to compute the true gain, and account for any depreciation you claimed between inheritance and sale, which is recaptured. Otherwise, the step-up typically makes a prompt sale one of the lowest-tax exits available to a real-estate heir.

Frequently asked questions

Do heirs pay depreciation recapture?

Usually not on the decedent's depreciation — the stepped-up basis at death typically eliminates it. Depreciation the heir later claims can be recaptured when they sell.

Does inherited property get a new depreciation schedule?

Yes, based on the stepped-up fair market value at the date of death.

Is a gift treated the same as an inheritance?

No. A lifetime gift usually carries the giver's basis (carryover basis), including built-in depreciation recapture. Only property transferred at death gets the Section 1014 step-up that can erase recapture.

What is the alternate valuation date?

An estate can elect, on Form 706, to value assets six months after the date of death instead of on the date of death — the basis then reflects that later value. It's an all-or-nothing estate election, not a per-asset choice.

Does the step-up avoid estate tax too?

No. The step-up is an income-tax rule that resets basis. The property's value may still count toward a taxable estate, though most estates fall under the federal exemption and owe no estate tax.

Sources

Educational information and estimates only. Not tax advice. Tax rules change and vary by situation; consult a qualified tax professional before acting.

Depreciation Recapture on Inherited Property