Inheriting property comes with one of the more favorable rules in the tax code: basis generally resets to the property's fair market value on the date of the decedent's death, rather than carrying forward whatever the original owner paid decades earlier. An heir who inherits a Portland rental that a parent bought in 1985 for $90,000, now worth $650,000, generally starts with a basis near $650,000, not $90,000, which erases most of the gain that would otherwise be taxable if the parent had sold it themselves.
What Stepped-Up Basis Actually Resets
The step-up applies to the fair market value at death, typically established through a qualified appraisal or, for simpler estates, comparable sales data from around that date. It does not erase depreciation the original owner claimed during their lifetime; that recapture liability generally dies with the decedent rather than passing to the heir, which is part of why inherited property is treated so differently from a lifetime gift, where the recipient instead takes the giver's original basis.
Where Heirs Still Owe Tax
If an heir holds the inherited property for a period after death and it appreciates further, or generates its own new depreciation once placed back in service as a rental, that additional gain and any new depreciation recapture are fully taxable on a later sale. An heir who inherits the Portland rental at a $650,000 stepped-up basis and sells it eighteen months later for $700,000 owes tax only on the $50,000 gained after inheritance, not on the decades of appreciation that came before.
Selling Quickly Versus Holding the Property
Because the stepped-up basis resets the gain clock, many heirs who sell inherited property relatively soon after receiving it owe little to no federal or Oregon capital gains tax, since there has been little time for new appreciation to accumulate. Heirs who hold the property longer, particularly if it's placed into service as a rental generating fresh depreciation, are effectively starting a new tax clock from the stepped-up value forward, and should plan accordingly rather than assuming the step-up shelters gain indefinitely.
A 1031 Exchange for an Heir Who Wants to Keep Investing
An heir who wants to hold the inherited value in real estate, rather than converting it to cash, and who is prepared to actively manage or co-manage a replacement property, can still use a 1031 exchange on any post-inheritance appreciation, deferring that portion of the gain the same way any other investment property owner would. The stepped-up basis and the exchange are not competing tools; the step-up handles the pre-death gain, and the exchange, if used, defers whatever accrues afterward.
The Oregon Estate Tax Layer, Separate From Basis
Oregon also imposes its own estate tax on estates above a $1M threshold, a separate matter from stepped-up basis and capital gains, and one worth flagging to heirs of a Portland-area estate since Oregon's threshold is considerably lower than the federal estate tax exemption. An heir focused only on capital gains planning can miss that a Portland property might trigger state estate tax exposure the federal return doesn't show at all.
Common 1031 Exchange Questions
What is stepped-up basis and how does it reduce capital gains tax?
Stepped-up basis resets an inherited property's tax basis to its fair market value on the date of the previous owner's death, which generally eliminates the taxable gain that had built up during the decedent's ownership.
Do I owe capital gains tax if I sell inherited property right away?
Often little to none, because the stepped-up basis is close to the sale price if little time has passed and the market hasn't moved significantly since the date of death.
Does the step-up erase depreciation recapture from before I inherited the property?
Generally yes, the recapture liability tied to the original owner's depreciation does not carry over to the heir, which is a meaningful difference from receiving property as a lifetime gift.
Can I do a 1031 exchange with inherited property?
Yes, once you own the property, any gain that accrues after inheritance, or depreciation you claim going forward, can be deferred through a 1031 exchange the same as with any other investment property.
Is Oregon's estate tax the same thing as capital gains tax on inherited property?
No, they're separate. Oregon's estate tax applies to the value of a qualifying estate above roughly $1M and is assessed independently of any capital gains tax an heir might later owe on a sale.
