When a parent’s health takes a serious turn, most families are focused on the obvious things: getting the right care, calling the right doctors, and making sure the right people are in the room. What very few families think about is a quiet legal and financial window that opens in the final weeks. It closes the moment the parent passes. Missing it doesn’t always cause harm, but sometimes it costs the family tens of thousands of dollars in capital gains taxes they never needed to pay.
What Is a Stepped-Up Basis?
Here’s the basic concept. When someone inherits an asset, the IRS resets the beneficiary’s cost basis to the fair market value on the date of death, rather than what the original owner paid. That reset is called a stepped-up basis, and it can be significant.
Say Mom and Dad bought stock for $30,000 in 1990, which is worth $300,000 today. If they sold it now, they’d owe capital gains tax on $270,000 of appreciation. But if Mom owns that stock at the time of death and Dad inherits it, his basis becomes $300,000. The $270,000 unrealized gain disappears for tax purposes. Permanently. This “step-up” occurs again when Dad dies and the stock is passed on to Dad’s heirs.
The step-up applies to stocks, mutual funds, real estate, and most other appreciated assets. For Connecticut families who have held property or investments for decades, the numbers can be meaningful.
Does the Step-Up Apply to Gifts?
The simple answer is “no.” Many parents want to make lifetime gifts to their children, for any number of reasons. Lifetime gifts do not benefit from a stepped-up basis. When you receive an asset as a gift, you inherit the giver’s original cost basis. Using our example above, if Mom and Dad transfer the stock to their daughter, the daughter’s tax basis will be the same as Mom and Dad’s, $30,000. The $30,000 basis comes with the stock.
The Tradeoff Every Family Should Understand
If the goal is to maximize the stepped-up basis benefit, it generally makes sense to have appreciated assets in the dying spouse’s name before death. But there’s a practical catch. Assets in a deceased person’s name get tied up in probate, which, in Connecticut, typically ties up the assets for a few weeks. That means the surviving spouse needs accessible funds available, in their own name, to cover expenses during that period.
The alternative, putting everything in the surviving spouse’s name prior to their spouse’s death, does reduce administration. But it also eliminates the stepped-up basis benefit on those assets. The family pays for the simplicity in a different way, through the tax bill later.
When the Window Closes, It’s Gone
I’ve seen families make the “let’s just put everything in Mom’s name” decision without realizing the tax consequences. By the time the subject comes up, the window has closed, as all transfers must be made before death to receive a stepped-up basis. This is a conversation worth having with a financial advisor and an attorney before that moment arrives, not after.
The Bayer Bottom Line:
- Stepped-up basis resets an inherited asset’s cost basis to its fair market value at death, wiping out accumulated capital gains
- This benefit only applies at death, not through lifetime gifting
- Appreciated assets in the dying spouse’s name generally receive the stepped-up basis
- The tradeoff is temporary illiquidity during probate, which in Connecticut can take several weeks or more
- Putting everything in the surviving spouse’s name for simplicity can result in a significant and unnecessary future tax bill