Do I Pay Capital Gains Tax When I Sell an Inherited House in California?

Do you pay capital gains tax when you sell an inherited house in California? Usually only on the increase in value after the date of death, which is often small when the house sells within a reasonable time.

I'm Jeanette Nelson, a REALTOR® with Jeanette Nelson Real Estate, Keller Williams Realty, serving Orange County, Huntington Beach, Costa Mesa, Fountain Valley, and surrounding areas. Many families I talk with worry that selling a parent's longtime Orange County home will bring a huge tax bill, because the home was bought decades ago for a fraction of today's value. The tax rules for inherited homes work differently than most people assume.

This is general information, not tax advice. Please talk with a CPA or tax professional about your family's situation before you sell.

Your "basis" is the starting value used to figure your gain when you sell. For a home you bought, it's generally what you paid plus improvements.

For an inherited home, the IRS says the basis is generally the fair market value on the date of the decedent's death. In some cases, the estate's personal representative can choose an alternate valuation date. This is often called a "stepped-up basis," because the basis steps up to today's value.

Here's a simple way to see it. Say a parent bought a home for a small amount many years ago, and it was worth $1,500,000 on the date of death. If the heirs sell for $1,520,000, the taxable gain is figured from $1,500,000, not from the original price, before subtracting selling costs. Your CPA will do the real math.

The IRS notes that the executor of the estate is the place to get information about the fair market value on the date of death. Many families get a date-of-death appraisal to document it.

IRS Publication 544 says that if you inherit property, you are considered to have held it longer than one year, no matter how long you actually owned it. That means a federal gain on an inherited home is generally treated as long-term, even if you sell a few months later.

California is a community property state, and this can matter a lot when one spouse passes first. IRS Publication 555 explains that when a spouse dies, the total fair market value of the community property, including the surviving spouse's half, generally becomes the basis of the entire property. At least half of the community property's value must be included in the deceased spouse's gross estate.

How the home was titled makes a difference, so bring the deed and any trust documents to your CPA or estate attorney.

The California Franchise Tax Board says California doesn't have a lower rate for capital gains. All capital gains are taxed as ordinary income. The FTB also says the California basis of inherited property is generally the fair market value at the time of death. If the home is held by an estate or trust, the FTB has separate guidance for estates and trusts.

The IRS exclusion of up to $250,000 of gain, or $500,000 for a married couple filing jointly, applies to your own main home. You generally must have owned it and lived in it for at least two of the last five years. An heir who didn't live in the inherited home usually won't meet those tests, which is one more reason the stepped-up basis matters so much.

• The date-of-death value and how it was documented.
• Selling costs, which can reduce your gain.
• Improvements made after the death, which may add to basis.
• Whether the house is in a trust or going through probate. See how to sell a house in a trust in California and do I need probate to sell an inherited house.
• Any mortgage on the home. See what happens to the mortgage when you inherit a house.

If your family has inherited a home in Orange County and you're weighing whether to keep it or sell, I'd love to sit down with you for a private planning conversation. We can look at recent like-kind sales and your family's goals, and work alongside your CPA and attorney. Call or text me at 714.366.8575 | DRE: 01397168, or contact me. You can also read more on my trust sales page. Jeanette Nelson is a REALTOR® with Jeanette Nelson Real Estate, Keller Williams Realty, serving Orange County, Huntington Beach, Costa Mesa, Fountain Valley, and surrounding areas.