A Guide for Investment Property Owners Navigating Loss and Tax Liabilities
When a spouse passes away, the surviving partner faces the dual challenge of grieving a loss while navigating financial decisions—particularly around real estate taxes. One of the most common and important questions from investment property owners is: Does a widow have to pay capital gains tax when selling inherited property?
The short answer: it depends—on how the property was titled, when it's sold, and where the widow resides. Let's explore the key factors that influence this outcome.
Step-Up in Basis: A Crucial Benefit
A key tax relief provision in estate planning is the step-up in basis. When a property is inherited, its cost basis is typically adjusted—or “stepped up”—to its fair market value (FMV) as of the deceased spouse’s date of death, depending on how the property was titled and applicable state laws.
If the widow later sells the property, capital gains are calculated using this new basis rather than the original purchase price.
Example:
If a couple purchased an investment property for $300,000 and the FMV at the time of death is $700,000, the widow’s new basis becomes $700,000. If the widow sells shortly thereafter for that same amount, the widow would realize little to no capital gain, which could reduce the associated capital gains tax.
Community Property States vs. Common Law States
Where you live matters. In community property states (e.g., Texas, California, Arizona), the surviving spouse may receive a full step-up on the entire value of the property—not just the deceased spouse’s half. This can eliminate or greatly reduce taxable gains on a future sale.
In common law states, only the deceased spouse’s share typically receives a step-up. For jointly owned property, this means that only half the basis is adjusted, and the surviving spouse retains their original basis on the other half. This can result in a higher taxable gain upon sale.
Timing and Use Matter
If the widow moves into the inherited property and uses it as their primary residence for at least two out of the past five years before selling, they may qualify for the home sale exclusion—up to $250,000 of gain can be excluded from capital gains tax.
However, this exclusion doesn’t apply to purely investment property unless the property is converted to a residence and the ownership/use tests are met.
Considerations for 1031 Exchanges
If the property is used for investment purposes, a 1031 Exchange may allow the widow to defer capital gains taxes by reinvesting proceeds into another investment property—such as a Delaware Statutory Trust (DST).
This strategy can offer:
- The potential for continued tax deferral
- Access to a diversified portfolio of real estate assets
- Reduced involvement in day-to-day property management
This approach may appeal to individuals transitioning from direct ownership to passive income solutions.
Final Thoughts
The death of a spouse brings emotional and financial considerations. Understanding the tax implications of inherited real estate—especially capital gains tax—is important for making informed decisions. Widows should consider consulting a tax advisor and exploring strategies like stepped-up basis planning and 1031 Exchanges , which can support wealth preservation and long-term financial goals.
The tax and estate planning information offered by the advisor is general in nature. It is provided for informational purposes only and should not be construed as legal or tax advice. Always consult an attorney or tax professional regarding your specific legal or tax situation.
Article written by: Story Amplify. Story Amplify is a marketing agency that offers services such as copywriting across industries, including financial services, real estate investment services, and miscellaneous small businesses.
