09/30/2026
Two families own the same house, bought years ago for $80,000 and worth $500,000 today. One signs the deed over to the kids now. The other leaves it to them. If the kids sell for $500,000, the first family's children can owe $63,000 in federal tax. The second family's children owe no federal capital gains tax at all.
The difference is the tax basis, the starting price the IRS measures a gain from. A lifetime gift passes along the parent's original $80,000, so a $500,000 sale is a $420,000 gain, taxed at 15% for most sellers. An inherited house generally takes its value on the date of death as its new basis, so a sale at that price shows no gain. The 3.8% investment income surtax and state income tax can push the gifted side higher.
A gift above $19,000 to one person in 2026 also needs a federal gift tax return, Form 709, even though no tax is due until the lifetime exemption runs out. The gift is final, too. Once the deed is signed, the house belongs to the kids, and so does the exposure to their creditors, a lawsuit or a divorce. A will, a transfer-on-death deed or a revocable living trust can all be changed while the owner is living.
Estate tax rarely changes the answer. The federal exemption is $15 million per person in 2026, so most families owe no federal estate tax whether the house is gifted or inherited. For them, an early gift swaps an estate tax that was never coming for a capital gains tax that is.
Each inheritance route keeps the reset, with its own fine print. A will works in every state but sends the house through probate. A transfer-on-death deed skips probate in the 30-plus states and D.C. that allow one, as long as it is recorded before death. A living trust skips probate too, but only if the deed is actually retitled into the trust.
If a child moves in and uses the house as a main home for two of the five years before selling, up to $250,000 of the gain can be excluded, or $500,000 for a married couple filing jointly. A gift made more than five years before a parent needs Medicaid for long-term care can keep the house outside Medicaid's reach, and an elder law attorney can sometimes structure a trust that protects the house and still keeps the reset. About a dozen states and D.C. also charge their own estate tax, some starting near $1 million.
For most families, keeping the house and naming who inherits it costs less and keeps the choice open.
Source: IRS Publication 551 and Internal Revenue Code sections 1014 and 1015; IRS 2026 inflation adjustments, Rev. Proc. 2025-32; IRS Publication 523 on the home sale exclusion.
Educational information only, not financial, tax, legal, or investment advice. Rules vary by state, so confirm your own situation with an estate planning attorney or tax professional.
