Step-Up Basis and Depreciation Recapture for Inherited Rental Properties

Inherited rental real estate benefits twice: basis resets to current value, and the depreciation recapture that would normally be taxed at 25% is wiped out. However, you'll need a formal appraisal to establish the basis, and the property's ongoing income impacts your Social Security and Medicare costs.

The step-up resets more than you'd think. Like other inherited assets, the cost basis resets to date-of-death value. But for rental property, the bigger win is that prior depreciation recapture is effectively wiped out. Depreciation recapture is normally taxed at up to 25% when you sell rental property -- the step-up eliminates that exposure entirely.

New depreciation starts fresh. You can begin depreciating the property again from the new stepped-up value, which increases your ongoing deductions against rental income. This is a meaningful tax benefit if you plan to keep the property.

Get an appraisal, not a tax assessment. You need a formal appraisal dated as of the date of death to establish the new basis. County tax assessor values are unreliable for this purpose.

Rental income affects your broader picture. The additional income can push Social Security benefits into higher taxability and affect Medicare premium surcharges.

The tradeoff: Rental property is operationally demanding. You need to decide whether to keep managing it, hire a property manager, or sell. Selling soon after the step-up is the most tax-efficient timing, before new appreciation accumulates.