The Core Rule: IRC Section 1014
Under federal tax law, property acquired from a decedent receives a basis equal to the fair market value of the property on the date of death. This means all capital gains that accumulated during the original owner's lifetime are wiped out for income tax purposes.
Why This Is So Valuable in California
California has some of the most appreciated real estate in the country. A home purchased decades ago for $200,000 might be worth $2,000,000 today — with $1,800,000 in embedded gain. The stepped-up basis eliminates that entire $1,800,000 gain for the heir. At a combined federal + California rate of ~37%, that's over $666,000 in tax permanently eliminated.
The Double Step-Up for California Community Property
California community property gets a step-up on both halves at the first spouse's death — not just the deceased's half. This is one of the strongest arguments for maintaining community property ownership rather than converting to joint tenancy.
What Does NOT Get a Step-Up
- Property received as a lifetime gift (gets carryover basis instead)
- IRA and 401(k) assets (no step-up — distributions taxed as ordinary income)
- Assets in most irrevocable trusts (outside the taxable estate)
The Prop 19 Tradeoff
Holding property until death maximizes the step-up benefit but may trigger Prop 19 reassessment for non-primary-residence property. This is the central estate planning tension for California real estate owners.
Disclaimer: This glossary entry is for general educational purposes only and does not constitute legal or tax advice. Laws change frequently and vary by individual circumstances. Consult a licensed California attorney or CPA for guidance on your specific situation.