how do you calculate cost basis on inherited stock

How do you calculate cost basis on inherited stock

Quick answer: In most U.S. non‑retirement cases, how do you calculate cost basis on inherited stock is by using the fair market value (FMV) of the shares on the decedent’s date of death (or, in some estates, an alternate valuation date), then subtracting that stepped‑up (or stepped‑down) basis from a later sale price to determine capital gain or loss.

Note: As of 2024‑06‑01, authoritative guidance from the IRS (see Publication 551 and related materials) and major brokerages affirms the date‑of‑death FMV rule for inherited securities. For detailed estate or state‑level treatment, consult a CPA or estate attorney.

Key concepts and definitions

This section defines core terms you need to understand before you calculate basis on inherited stock.

• Cost basis: the value used to determine gain or loss when an asset is sold. For inherited non‑retirement stock, basis is generally reset to FMV at the date of death.
• Fair market value (FMV): the price a willing buyer would pay a willing seller, measured for publicly traded shares by market quotes on the valuation date.
• Step‑up/step‑down in basis: when an inherited asset’s basis is adjusted to the FMV at death — “step‑up” if FMV is higher than decedent’s original basis, “step‑down” if lower.
• Holding period: inherited property is treated as having a long‑term holding period regardless of how long the decedent held it; this affects capital gains tax rates.
• Capital gains vs. capital losses: gain or loss equals sale proceeds minus adjusted basis (after step‑up/step‑down and any later adjustments).
• Adjusted cost basis: basis after accounting for corporate actions (splits, spin‑offs), reinvested dividends, commissions, or other basis modifiers.

General IRS rule for inherited property

The default federal rule: inherited property generally receives a basis equal to its FMV on the decedent’s date of death. This effectively removes the decedent’s unrealized appreciation (or depreciation) from the heir’s income tax picture prior to any sale.

• The heir’s holding period for capital gains tax is always treated as long‑term. That means when you sell inherited stock, gain is taxed at long‑term capital gains rates regardless of how long you or the decedent held the shares.
• This step‑up/step‑down rule applies to most non‑retirement, includible estate assets. It does not apply in the same way to gifts given during life, or to most qualified retirement accounts.

Date of death vs. alternate valuation date

Executors may elect an alternate valuation date six months after the date of death for estate tax purposes only if the estate files Form 706 and the alternate valuation lowers both the gross estate and the estate tax liability. If elected, the basis for assets included in the estate may use FMV at the alternate valuation date rather than date of death.

• The alternate valuation option is only available when it benefits the estate overall and is elected on the estate tax return.
• If an asset is sold or distributed before the six‑month alternate date, the sale/distribution value is used instead.

How to determine FMV for publicly traded stock

For exchange‑listed shares, FMV is usually the market price on the valuation date. Specific practices include:

• Many custodians and brokerages use the closing price on the date of death. Some use an intraday price close to the time of death or an average of the bid and ask near market close.
• If the date of death falls on a weekend or market holiday, custodians typically use the next trading day’s opening price or the last close — procedures vary by firm.
• For accurate FMV, request a formal valuation or confirmation from the decedent’s brokerage or the estate’s executor. Keep brokerage statements documenting the price used.

Step‑by‑step calculation examples

Below are short numeric examples illustrating how the step‑up/step‑down works in practice.

Example 1 — Step‑up then immediate sale (minimal gain)

• Decedent bought 100 shares at $10 each (original basis $1,000).
• FMV on date of death: $40 per share → stepped‑up basis = $4,000.
• Heir sells immediately at $41 per share → sale proceeds $4,100.
• Taxable gain = $4,100 − $4,000 = $100 (long‑term gain).

Example 2 — Hold then later sale (gain measured from stepped‑up basis)

• Same stepped‑up basis: $4,000.
• Heir sells three years later at $60 per share → sale proceeds $6,000.
• Taxable gain = $6,000 − $4,000 = $2,000 (long‑term gain).

Example 3 — Step‑down in basis (FMV lower than decedent’s basis)

• Decedent’s basis $10,000; FMV at death $6,000 → heir’s basis $6,000.
• Heir sells at $5,000 → deductible capital loss = $5,000 − $6,000 = −$1,000 (long‑term loss, subject to capital loss rules).

These examples show the core calculation: sale price minus the stepped‑up (or stepped‑down) basis. When you ask how do you calculate cost basis on inherited stock, this subtraction is the essential math.

Special situations and exceptions

Certain ownership forms and asset types change the basic rule.

Gifts versus inheritances

Gifts made during the donor’s life carry the donor’s original basis (carryover basis). That means if the donor gave stock as a gift prior to death, the recipient’s basis is generally the donor’s basis, not the FMV at death. This is a key difference when comparing gifts to inheritances.

Jointly held assets and survivorship accounts

How jointly held assets are treated depends on the account title, state law, and who contributed funds.

• Joint tenants with right of survivorship typically transfer full ownership to the surviving owner at death. For federal tax, the surviving owner often receives a step‑up in basis for the decedent’s share of the property.
• For accounts where ownership proportion is ambiguous, basis allocation may require documentation of contributions and state law guidance.

Community property states

In community property states, a surviving spouse may receive a step‑up in basis for the entire community property interest, often creating a “double step‑up” for assets held as community property when one spouse dies. Rules vary by state; consult local counsel for precise treatment.

Trusts (revocable vs. irrevocable)

• Revocable living trusts generally become part of the decedent’s estate at death, so assets included in the estate usually receive a step‑up to FMV.
• Irrevocable trusts may or may not be included in the decedent’s estate depending on trust terms and control retained; assets outside the estate won’t receive a step‑up.

Retirement accounts (IRAs, 401(k)s) and NUA

Retirement accounts generally do not receive a step‑up in basis. Distributions from IRAs or 401(k)s are taxed as ordinary income to beneficiaries (subject to required minimum distribution rules).

• Net Unrealized Appreciation (NUA) is a special rule that can apply to employer stock distributed from a qualified employer plan: the cost basis rules and tax timing differ — consult a tax pro before using NUA rules.

Closely held or illiquid securities, collectibles, and business interests

Illiquid assets often require a qualified appraisal to establish FMV for estate tax and basis purposes. Estates that include such assets should obtain written valuations and retain appraiser reports.

Reporting, forms, and tax filing considerations

When inherited stock is sold, heirs report the sale on federal tax forms. Key points:

• Form 8949: report details of each sale (date acquired, date sold, proceeds, and basis). For inherited property, the date acquired may be listed as the date of death and code “H” or other appropriate code per instructions.
• Schedule D (Form 1040): summarizes capital gains and losses, which flow from Form 8949.
• Form 706 (Estate Tax Return): filed only when the estate exceeds federal filing thresholds; election of alternate valuation date and certain basis information may appear here.
• Form 8971 and Schedule A to Form 8971: used by estates to report property values to beneficiaries when required, and brokers may receive this information to update beneficiary cost basis reporting.

Broker reporting (Form 1099‑B)

• Brokers often report cost basis on Form 1099‑B. However, brokerage systems may initially reflect the decedent’s original basis rather than the stepped‑up basis. Heirs should verify and, if needed, request basis adjustments with the custodian.

Documentation and proof of basis

Good records reduce audit risk and simplify future reporting. Obtain and keep:

• Death certificate(s).
• Executor’s valuation or estate inventory showing FMV at date of death.
• Brokerage statements or custodian letters showing the FMV and number of shares on the valuation date.
• Form 8971 and any Schedule A provided to beneficiaries.
• Letters Testamentary or Letters of Administration showing authority to act for the estate.

Adjustments to basis after inheritance

After inheritance, basis can change for legitimate events:

• Stock splits: basis is adjusted proportionally across shares.
• Reinvested dividends: each reinvestment creates a new lot with its own basis; track these separately.
• Corporate actions: mergers, spin‑offs, and exchange offers require allocation of basis between original and new securities as prescribed by IRS rules.
• Transaction costs: commissions paid when buying additional lots or selling may be added to or deducted from basis (depending on the event).

When asking how do you calculate cost basis on inherited stock, remember to account for these post‑inheritance adjustments before computing gain or loss.

Calculating gains/losses and tax treatment

Taxable gain or deductible loss = sale proceeds − adjusted basis (after step‑up/down and any subsequent adjustments).

• Gains on inherited property are always treated as long‑term.
• Long‑term capital gains rates apply, subject to ordinary income brackets, net investment income tax, and other tax rules.
• Capital losses are subject to standard netting rules and annual deduction limits against ordinary income.

Practical steps for heirs and best practices

Follow this checklist to reduce errors and audit risk:

1. Confirm the valuation date used (date of death or alternate valuation if elected).
2. Request brokerage/custodian statements showing FMV on the valuation date.
3. Verify that the custodian’s cost‑basis reporting matches the estate’s valuation; if not, request corrections and retain correspondence.
4. Keep copies of Form 8971 or the estate tax return if filed.
5. Track reinvested dividends and separate lots created after inheritance.
6. Decide whether to sell or hold, remembering inherited assets are treated as long‑term for capital gains.
7. Consult a qualified tax professional for complex situations (illiquid holdings, trusts, community property issues, or sizeable estates).

Practical note: If you use digital asset services or wallets in estate administration, consider Bitget Wallet for custody and clear transaction records. For trading or custody services, Bitget (as a regulated platform where applicable) can assist with reporting and custodial statements that help document FMV and transaction history during estate settlement.

Common problems and disputes

Typical issues heirs face:

• Broker displays the decedent’s original basis rather than stepped‑up basis. Remedy: provide estate documentation and request a cost‑basis update in writing.
• Mismatch between estate valuation (executor’s appraisal or Form 8971) and broker‑reported basis. Remedy: reconcile valuations, provide supporting documents, and if needed, obtain a formal appraisal.
• IRS notices questioning basis claims. Remedy: respond with documentation; consult a tax attorney or CPA.
• Penalties for underreporting gains can apply if incorrect basis is used — maintain records and seek professional help when disputing basis values.

State tax and estate tax considerations

Federal basis rules govern cost basis for income tax, but state estate or inheritance taxes are separate. A few states impose estate or inheritance taxes with their own filing thresholds and rules.

• State tax rules vary widely. Check your state’s department of revenue or consult a local tax advisor.
• Remember that the alternate valuation date election affects federal estate tax and may indirectly affect basis if applied; state conformity varies.

Frequently asked questions (FAQs)

Q: Do I owe tax just for inheriting stock?

A: No. In general, inheriting stock does not trigger income tax at the time of transfer. Tax may be due when you sell the shares — calculated as sale proceeds minus the stepped‑up (or stepped‑down) basis. This FAQ directly answers the practical part of how do you calculate cost basis on inherited stock.

Q: What if the decedent sold the stock shortly before death?

A: If the decedent sold the shares before death, the sale results must be reported on the decedent’s final tax return. The proceeds are part of the estate; subsequent inheritances are based on what remains at death.

Q: How are reinvested dividends treated?

A: Reinvested dividends after inheritance create separate lots with their own basis. Track each reinvestment to adjust basis properly when you later sell.

Q: If the broker reports a different basis on 1099‑B, which should I use?

A: Use the correct stepped‑up basis on your tax return even if the broker’s 1099‑B shows a different basis. Attach an explanation if required and keep documentation. Coordinate with the broker to correct 1099‑B where possible.

Q: Are inherited retirement accounts stepped up in basis?

A: No. Traditional IRAs and qualified plans do not get a stepped‑up cost basis; distributions are generally taxed as ordinary income when withdrawn by beneficiaries. Special rules (like NUA) may apply to employer stock distributed from a plan.

References and further reading

• IRS Publication 551 (Estate Tax) and related IRS guidance on basis for inherited property. As of 2024‑06‑01, the IRS restates the FMV‑at‑date‑of‑death rule for inherited property.
• Brokerage guidance (custodian statements, beneficiary letters) — request documents from the decedent’s broker or custodian for the exact price used.
• Practical articles and walkthroughs (investing education resources) that illustrate step‑up calculations and Form 8949 reporting examples.

Appendix — Worked numeric examples and sample tax form entries

Worked example with Form 8949/Schedule D entries (mock numbers):

Scenario: You inherited 200 shares on 2024‑01‑10 with FMV $25/share. You sold all 200 shares on 2026‑03‑15 for $40/share. Brokerage reported proceeds and the account needs a basis correction.

• Stepped‑up basis = 200 × $25 = $5,000.
• Sale proceeds = 200 × $40 = $8,000.
• Long‑term capital gain = $8,000 − $5,000 = $3,000.

Form 8949 (short description):

• Column (a) Description: 200 shares of XYZ (inherited — date of death 2024‑01‑10)
• Column (b) Date acquired: 2024‑01‑10 (date of death)
• Column (c) Date sold: 2026‑03‑15
• Column (d) Proceeds: $8,000
• Column (e) Cost or adjusted basis: $5,000
• Column (f) Code(s): H (or appropriate code per instructions for inherited property)
• Column (g) Adjustment amount: $0 (if basis used is the estate FMV)

Total long‑term gain flows to Schedule D and then to Form 1040.

Notes about scope and limitations

This article focuses on non‑retirement inherited securities under U.S. federal tax rules. Retirement accounts, non‑U.S. tax rules, and highly complex estates (large closely held businesses, unique trust arrangements) have additional rules beyond this guide. This information is educational and not a substitute for professional tax or legal advice. For specific decisions, consult a CPA or estate attorney.

Further explore how do you calculate cost basis on inherited stock with your estate documents in hand, and contact a tax professional if your situation involves trusts, community property, retirement plan distributions, or illiquid assets.

As of 2024‑06‑01, according to IRS guidance and major brokerage procedures, the FMV at date of death is the primary basis rule for inherited securities. Always verify custodian practices and retain all estate valuation documentation.