Estate Planning And Elder Law Services In Orlando And Beyond

Ways to avoid paying capital gains tax on inherited property

On Behalf of | Apr 14, 2024 | Probate |

An inheritance is meant to help provide you with a bit of a boost from a loved one who has passed away. While this scenario is usually beneficial, there are times when an inheritance might be more of a hassle than you expected. For example, this is sometimes the case when liability known as capital gains taxes arises as a result of a well-intentioned gift.

Because capital gains taxes can be significant, minimizing them is often a priority for someone who inherits property. If you’re in this position, consider these ways to avoid having to pay capital gains taxes on that property if you don’t want to keep it for long.

Step-up in basis

One of the most significant tax benefits when inheriting property is the “step-up in basis” rule. This rule allows the property’s cost basis to be adjusted to its market value at the time of the original owner’s death. For example, if a property was purchased for $100,000 but is worth $300,000 at the time of the owner’s passing, the basis is stepped up to $300,000.

If you sell the property for $300,000, there would be no capital gains tax owed because the sale price is equal to the stepped-up basis. This adjustment can significantly reduce the capital gains tax if the property has appreciated in value over time.

Live in the property for two years

You can use it as your primary residence for at least two years before selling, which means you can take advantage of the Section 121 exclusion. This IRS provision allows individuals to exclude up to $250,000 of capital gains from their income or $500,000 for married couples filing jointly when selling a primary residence. By moving into the inherited property and living there for the required period, you can potentially eliminate a significant portion of your capital gains tax liability.

Consider a 1031 exchange

You might consider a 1031 exchange to defer capital gains taxes if the property is an investment property. This tax strategy allows you to sell a property and reinvest the proceeds in a new property while deferring all capital gains taxes. There are specific rules and timelines that must be followed for a 1031 exchange to be valid, including identifying a replacement property within 45 days and completing the exchange within 180 days of the sale of the original property.

Working with a legal representative who can inform you about your options and explain how they will impact you may be beneficial. This information can empower you to make decisions based on what’s best for your needs.