Capital Gains on Gifted Stock

When someone gifts appreciated stock to another person, the cost basis does not reset. The recipient inherits the donor’s original basis, meaning the entire pre-gift gain remains taxable if the stock is later sold. This is the opposite of inheritance, where the basis steps up to fair market value.

The Carryover Basis Rule

When a gift is made, the recipient takes a carryover basis equal to the donor’s adjusted basis. This is the cardinal rule of gifted property and applies to all gifts of appreciated securities.

Example: A parent bought stock for $40,000 (the cost basis). The stock is now worth $200,000. The parent gifts the stock to an adult child. The child’s basis is $40,000, not $200,000. If the child sells the stock for $210,000, the taxable gain is $170,000 ($210,000 sale price minus $40,000 basis).

The date-of-gift fair market value ($200,000 in this example) is relevant for gift tax purposes — the parent must report the gift on Form 709 if it exceeds the annual exclusion ($18,000 per recipient in 2024) — but it has no effect on the recipient’s income tax basis. The income tax basis is always the donor’s cost basis.

This carryover rule is the opposite of inheritance. When someone inherits the same stock at the parent’s death, the child’s basis is the date-of-death value, not the parent’s original purchase price.

Holding Period Carries Over for Gains

When the recipient sells gifted stock at a gain, the holding period includes the donor’s holding time, not just the recipient’s time since the gift. This matters because it determines whether the gain is treated as long-term or short-term for tax purposes.

Example: A parent bought stock in 2010 and gifted it to their child in 2024. The child sells it in 2025. Even though the child held it for only one year, the gain is treated as long-term capital gain because the parent’s holding period is tacked on (14 years total). Long-term gains are taxed at preferential rates (0%, 15%, or 20%, depending on income), while short-term gains are taxed as ordinary income rates.

This tacking rule is favorable to the recipient; it means gifted appreciated stock almost always qualifies for long-term treatment if held long enough before the original purchase.

Holding Period Excluded for Losses

If the stock declines in value after the gift, the holding period rule flips. The recipient cannot claim a loss using the donor’s holding period. Instead, the recipient’s holding period for loss purposes begins on the date of the gift.

Example: A parent bought stock for $100,000 in 2015. The stock has declined to $60,000 by 2024 when it is gifted to a child. The child sells it for $50,000 in 2025. The loss is $10,000 ($50,000 sale price minus $60,000 donor’s basis). Because the loss is calculated using the date-of-gift value, the holding period for loss purposes runs only from the date of gift (2024), making it a short-term loss. But short-term capital losses can only offset short-term capital gains or $3,000 of ordinary income per year; the rest carries over.

This asymmetry — using the donor’s basis for the loss calculation but the recipient’s holding period for loss timing — is a quirk of the tax code.

The Tax Inefficiency of Gifting Appreciated Property

Gifting appreciated property is often less tax-efficient than holding it until death and allowing the recipient to inherit it. The step-up in basis available at death is not available for gifts.

Example: A parent owns stock purchased for $50,000, now worth $500,000. The parent has two options:

Option 1: Gift the stock during life. The child receives the stock with a basis of $50,000. If the child sells it for $510,000, the taxable gain is $460,000. Federal tax at the 15% long-term rate is $69,000.

Option 2: Hold until death and the child inherits it. The child’s basis steps up to $500,000 (the date-of-death value, or perhaps higher if the stock continues to appreciate). If the child sells for $510,000, the taxable gain is $10,000. Federal tax is only $1,500.

The difference is substantial. Gifting triggers tax on decades of gains; inheritance erases them.

This is why wealthy individuals with highly appreciated securities often continue to hold them personally rather than transfer them to adult children during life. The step-up in basis at death is a more tax-efficient way to transfer wealth.

Gifts Below Fair Market Value

Occasionally, someone gifts property below its fair market value — perhaps a parent lending money to a child at below-market interest, or gifting property at a discount. For income tax purposes, the recipient’s basis is still the donor’s adjusted basis, not the discounted price paid.

The discount is treated as a gift for gift tax purposes, but it does not affect the income tax basis calculation.

Example: A parent owns stock with a basis of $100,000 and current value of $300,000. The parent sells it to their child for $200,000 (a $100,000 discount). The child’s basis is still $100,000 (the parent’s original basis), not $200,000 (what the child paid). The $100,000 difference is treated as a gift for gift tax purposes but does not change the basis for income tax purposes.

Adjusted Basis vs. Original Cost Basis

The carryover rule uses the donor’s “adjusted basis,” not the original purchase price. If the donor made capital improvements, claimed depreciation, or made other adjustments to basis, the recipient inherits the adjusted basis.

Example: A parent buys real estate for $200,000, claims $50,000 in depreciation deductions, and then gifts the property to their child. The child’s basis is $150,000 (the adjusted basis), not $200,000 (the original cost basis).

This matters for real estate, which can have significant accumulated depreciation. A gift of rental property carries over the adjusted basis with all depreciation deductions already claimed.

Avoiding Unrealized Loss Gifts

The tax code discourages gifting property that has declined in value. If the donor’s basis exceeds the fair market value at the time of gift, the recipient has a split basis for gain and loss purposes.

Example: A parent owns stock purchased for $100,000, now worth $70,000. The parent gifts it to a child. If the child sells it for $75,000 (between the original cost and current value), no gain or loss is recognized — the child’s basis “floats” in the loss range. If the child sells for $80,000, the gain is calculated from $70,000 (the date-of-gift fair market value). If the child sells for $60,000, the loss is calculated from $100,000 (the donor’s basis).

This split-basis rule is complex and usually results in a worse tax outcome than if the donor had sold the property and gifted the proceeds instead.

Gift Tax Reporting

When the fair market value of a gift exceeds the annual exclusion ($18,000 per recipient in 2024) or the lifetime gift tax exemption is used, the donor must file Form 709 (U.S. Gift Tax Return). However, filing Form 709 does not affect the recipient’s income tax basis. The basis is always the donor’s adjusted basis, regardless of whether a gift tax return is filed.

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