A Life Estate Gives the Kids a Full Step-Up in Basis When Mom Dies. Sell the House While She’s Still Living in It and Their Share of That Break Disappears
A widowed mother signed a life estate deed to spare her kids from probate, but when the family agreed to sell the house while she was still alive, a quiet clause in the tax code turned a generous inheritance plan…
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At 78, a widowed retired bookkeeper signed a life estate deed on the house she and her late husband had bought decades earlier. Purchase price plus improvements came to a total basis of $150,000. The deed named her son and daughter as remaindermen and let her live in the house for the rest of her life. Her lawyer presented it as a simple way to keep the house out of probate.
Four years later, at 82, she decided to move in with her daughter. The house was now worth $650,000. All three signed the listing agreement, closed the sale and split the proceeds. The next April, the kids’ accountant showed them a federal capital gains bill of $51,057.75 on a house that would have come to them with zero taxable gain if they had waited.
Life Estate Deeds Deliver the Step-Up Only at Death
A life estate deed splits ownership in two. Mom keeps the right to live in the house for life. The children own the remainder starting the day the deed is recorded. Because she held on to possession for life, 26 U.S.C. § 2036(a)(1) pulls the full value of the house back into her gross estate when she dies.
That inclusion is what triggers the tax break. Under 26 U.S.C. § 1014(b)(9), property that has to be included in the gross estate counts as acquired from the decedent, so its basis resets to fair market value at death under § 1014(a)(1). IRS Publication 523 says the same thing: an heir’s basis is “the fair market value of the property on the date of the decedent’s death”.
But there’s a catch. Section 1014(a) applies only to property “not sold, exchanged, or otherwise disposed of before the decedent’s death”. If the house sells first, the kids’ remainder is treated as a gift they got back when the deed was signed. Under 26 U.S.C. § 1015(b), that means they carry over her old basis.
A $650,000 Sale Leaves the Kids Taxed on $340,385
When a life tenant and the remaindermen sell together, the price gets divided using IRS actuarial tables: Table 2010CM and the Section 7520 rate, under 26 CFR 20.2031-7(d)(7). We assumed a 5% Section 7520 rate. On that assumption, the remainder factor for an 82-year-old is 0.68077 and her life estate is 0.31923. Her original basis is split the same way.
| Item | Mom (life estate) | Kids (remainder) |
|---|---|---|
| Share of $650,000 price | $207,499.50 | $442,500.50 |
| Share of $150,000 basis | $47,884.50 | $102,115.50 |
| Gain | $159,615 | $340,385 |
| Federal tax | $0 (Section 121) | $51,057.75 |
Mom’s gain fits under the $250,000 home-sale exclusion in Section 121(b)(1), provided she meets the two-of-five-year ownership and use test. The kids never lived in the house, so the exclusion does nothing for them. At the 15% long-term rate in Section 1(h)(1)(C), they owe $25,528.88 each, before any state income tax.
Selling the whole house in one transaction does protect Mom’s share of the basis. If she sold her life estate by itself, Section 1001(e)(1) would ignore her basis entirely. The exception in § 1001(e)(3) applies only when the entire interest is transferred together.
Holding Until Her Death Erases the Entire Gain
Consider the other path. Suppose the house is still worth $650,000 when she dies. Section 2036 includes it in her estate, the kids’ basis steps up to $650,000, and a sale at that price produces no gain and no tax. Waiting would have saved them $51,057.75.
Waiting also gives the step-up more to wipe out over time. National home prices hit a five-year high of 337.306 on the Case-Shiller index in July 2026, up 1.9% from a year earlier. Any appreciation between now and her death disappears at the step-up.
If Mom needs income after moving out, the family can rent the house rather than sell it. The rent goes to her as life tenant, and the step-up stays in place.
Moves to Make Before Anyone Lists the House
- Get the recorded deed and confirm whether it is a standard life estate or an enhanced life estate deed. An enhanced deed, recognized in some states, lets the owner sell alone.
- Get a current appraisal and that month’s Section 7520 rate. Have a CPA run the actuarial split before anyone signs a listing agreement.
- Rebuild Mom’s basis from the original closing statement and receipts for improvements. Every dollar you document lowers the kids’ inherited gain.
- Confirm that Mom meets the Section 121 two-of-five-year test on the planned closing date, so her share of the sale stays tax-free.
- Price out renting against selling, including insurance, property tax and maintenance. An estate attorney can confirm how your state treats the life tenant’s responsibilities.
Remember one number: $51,057.75. That is the federal tax the kids paid for selling while Mom was alive, on a house that would have come to them with no gain at all after her death. It is one of nine IRS rules that quietly drain six figures from families like this one, and we mapped the rest in a free report.
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Vilma Rios is a tax professional and tax content contributor with more than 15 years of experience in tax and accounting. She specializes in federal tax research, tax education, and translating complex tax rules into clear, practical information for individuals, families, and small-business owners.
Vilma is a Content Tax Contributor II with the National Association of Tax Professionals (NATP), where she contributes to tax education and professional content. She has also presented tax information through webinars, including Spanish-language tax education, and has appeared on Telemundo 47 discussing tax topics and helping viewers understand important tax-filing requirements.
Her experience also includes tax and accounting work, tax research, IRS-related matters, and public tax education. While in college, Vilma volunteered in an IRS-sponsored tax assistance program and was recognized for her community service by local and state officials.
Known as “Your Tax Geek,” Vilma is passionate about making taxes easier to understand and helping people navigate an increasingly complex tax system.
