Depreciation Schedule Reset on Inherited Rental Property

When you inherit an income-producing rental property, the IRS allows you to establish an entirely new depreciable basis based on the property’s fair market value at the date of death—a reset that begins the depreciation schedule anew, even if the original owner had decades of depreciation remaining.

The Step-Up Basis Framework

The foundation of inherited property taxation is the “step-up in basis” rule. Under Internal Revenue Code Section 1014, a beneficiary’s basis in inherited property is the fair market value on the date of the decedent’s death, not the decedent’s original cost basis. For a rental property that was originally purchased at $400,000 and appreciated to $600,000 by the time the owner died, the heir steps up to a $600,000 basis immediately—and that $600,000 becomes the starting point for calculating depreciation going forward.

This reset is a tax benefit. The original owner accrued $200,000 of unrealized gain (and paid income tax on depreciation deductions along the way). The heir inherits the property, steps up to current value, and begins a brand-new depreciation schedule with no carryover liability for the previous owner’s depreciation recapture. In other words, the heir starts fresh with no “debt” for prior tax deductions.

Allocating the FMV to Building and Land

Not all of the stepped-up basis is depreciable. Real estate value is split into the land (not depreciable) and the building (depreciable). The heir must allocate the stepped-up fair market value between land and building, using methods such as property tax assessment ratios, appraisals, or the relative sales price method if comparable properties are available.

Example: An heir inherits a rental duplex appraised at $500,000 on the decedent’s death date. A professional appraisal determines that 25% of the value ($125,000) is attributable to land and 75% ($375,000) to the building. The heir’s stepped-up basis is $500,000; the depreciable basis is $375,000 (the building portion). Land basis is $125,000 and generates no annual depreciation deductions.

Starting the New Depreciation Schedule

Once the building basis is determined, the heir begins depreciating it under current tax law. For residential rental property (a building with at least 80% of gross rental income from dwelling units), the recovery period is 27.5 years. For non-residential property, it is 39 years. Both use the straight-line method (equal deductions each year).

The first-year depreciation follows the mid-month convention: depreciation begins in the middle of the month the heir acquires (or becomes entitled to) the property. If an heir inherits a property in June, the June deductions are taken as half of one month’s deduction, and full months of depreciation run from July onward until the property is sold or is no longer held for business/investment use.

Annual depreciation = Depreciable basis ÷ Recovery period. For the $375,000 building above, annual depreciation is approximately $13,636 per year (before the mid-month convention adjustment in the first partial year).

Timing Considerations and First Use

The depreciation schedule clock starts on the date the heir takes possession of the property or becomes entitled to it under the inheritance. If the property was generating rental income before death and continues to be rented after the heir’s acquisition, the heir is entitled to begin depreciation immediately. If the heir takes a period to decide whether to rent, occupy, or sell the property, depreciation does not begin until the property is placed in service (i.e., available for rent or otherwise generating business income).

The holding period for capital gains tax purposes also begins fresh: the heir’s holding period for depreciation recapture purposes (to determine long-term vs. short-term character) restarts from the inheritance date, not the original purchase date.

Depreciation Recapture on Future Sale

When the heir eventually sells the inherited property, any depreciation deductions claimed after the inheritance will be subject to depreciation recapture at a 25% federal rate (or ordinary income rates in some circumstances). The stepped-up basis itself is not recaptured—only the post-inheritance depreciation deductions. This is why the step-up in basis is so valuable: it erases the prior depreciation recapture liability and gives the heir a clean slate.

Example: The heir inherited the building at $375,000, claimed depreciation of $50,000 over four years, and then sells for $425,000. The adjusted basis at sale is $325,000 ($375,000 − $50,000 depreciation). The gain is $100,000. Of that, $50,000 is depreciation recapture (taxed at up to 25%), and $50,000 is long-term capital gain (taxed at preferential rates). The original owner’s depreciation (which was already recaptured during their lifetime via income tax) does not resurface.

Carryover Basis Exception

A narrow exception exists: property acquired from certain decedents before 2010 may have a “carryover basis” instead of a step-up. This applies only to estates of people who died during 2010 (when the step-up rule was temporarily suspended). For property inherited after 2010, the step-up rule applies uniformly. Heirs of 2010 decedents should consult a tax professional to determine whether carryover basis or step-up basis applies.

Depreciation Recapture and Inherited Property Strategy

Because the heir receives a full step-up and starts a fresh depreciation schedule, depreciation is typically valuable even if the original owner had already claimed substantial depreciation. Each year of continued ownership generates new deductions, lowering the heir’s taxable income. However, when the property is eventually sold, those post-inheritance deductions are recaptured. Heirs should understand that depreciation is not a permanent reduction in tax; it is a deferral, and the tax is eventually paid on disposition.

See also