Ask the Expert: The cost basis for selling inherited property
My parents bought their house in 1956 for $14,000. In 1973, Mom got the house in their divorce settlement. In 2015, she put me and my two siblings on the deed, keeping a life estate for herself. We sold the house last year for $550,000. Mom has a capital-gains tax exemption because it was her primary residence. I'm told the cost basis for my gain is 25% of the 1956 purchase price plus 25% of capital improvements since then. Is that right?
No.
Your Mom and her three kids share her cost basis in the house because it was sold during her lifetime. But that cost basis is half the 1956 purchase price plus capital improvements, and half the 1973 market value of the house plus improvements after the divorce. The reason: Property transferred in a divorce on before July 18, 1984, was transferred at its market value. (Property transferred after that date retains its original cost basis.)
If the house was worth $40,000 in 1973, for example, your Mom has a $20,000 cost basis in the 50% share she received in the divorce. Her cost basis in her original 50% share is $7,000 (half the 1956 purchase price). Let’s say capital improvements and sales-related expenses bring the total cost basis to $237,000.
That’s a $313,000 capital gain ($550,000 minus $237,000), divided between the four people on the deed. But it’s not equally divided. Your mother's share is based on the actuarial value of her life estate according to the IRS actuarial table. If her life estate is worth 30%, for example, her share of the gain is $93,900. The $219,000 balance is equally divided between you and your siblings.
The bottom line
When you sell a house, your cost basis depends partly on when and how you acquired the property.
More information
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