Tax Strategy: Step-Up Basis Rules and Inheritance Tax Implications

## Catalyst Analysis: Step-Up Basis Rules - The stepped-up basis rule allows inherited assets to be revalued to fair market value on the date of death, effectively wiping out accumulated capital gains for tax purposes. - A critical statutory trap, outlined in 26 U.S. Code §1014(e), denies this basis reset if the decedent dies within one year of receiving the gift, and the property subsequently returns to the original donor or their spouse. - Medicaid's five-year lookback provision also poses a risk, as gifted shares may count against the parent's asset limit for long-term care eligibility, potentially negating the tax benefits.

## Impact on Investors ### Winners, Losers & Uncertainty - Investors holding highly appreciated assets may leverage this rule to pass them on with a reset cost basis, potentially saving heirs substantial capital gains taxes. For example, shares of Microsoft (NASDAQ: MSFT) purchased for $15,000 in the mid-1990s, now valued near $499.70, carried an embedded gain of over $484,000. - A failure to meet the one-year holding period by the decedent could leave heirs with the original, lower cost basis, resulting in a significant tax bill, potentially around $115,000 in the described Microsoft example. - Uncertainty exists for individuals planning to use this strategy due to the complexities of the one-year rule and Medicaid's lookback period, which can inadvertently nullify the intended tax advantages.

### Risk Watch — legal/timeline; no fake EPS tables - The primary risk hinges on the decedent surviving more than one year after receiving the gifted asset to qualify for the stepped-up basis. - Medicaid eligibility assessments require a five-year lookback period for gifted assets, meaning such transfers could impact qualification for long-term care benefits. - The federal estate tax exemption sits at $13.99 million per individual in 2026, meaning the strategy is most effective for estates valued below this threshold to avoid estate taxes themselves.