Gains or losses on stock investments are normally long-term if you own the shares for more than one year. If you owned the stock for one year or less, gains and losses are short-term. Inherited stock might seem to pose a problem because the deceased owner made the investment on one date and you inherited the shares on another date. Fortunately, the Internal Revenue Service has a very simple solution.
Any capital gain or loss that is the result of selling inherited stock is always long-term. This rule applies regardless of how long you or the original owner owned the shares. You are not responsible for taxes on any gain that occurred while the original owner was alive. However, you cannot use any capital loss on the shares that occurred prior to the date of death as a tax deduction.
Ambiguities regarding the amount of capital gain or loss on inherited stock are resolved by adjusting the cost basis of the original investment. Cost basis is based on the price paid, with adjustments for expenses, such as broker’s commissions. If the stock appreciated during the original owner’s lifetime, the cost basis is “stepped up” to the fair market value on the date of death. If the stock has fallen in value, the cost basis is stepped down to the fair market value on the date of death. Your gain or loss then depends on changes in the stock price that occur after the death of the original owner.
To calculate the capital gain on the sale of inherited stock, subtract the adjusted cost basis from the proceeds of the stock sale. To figure out your tax liability, multiply the gain by the applicable long-term capital gains rate. As of 2012 the maximum long-term capital gains tax rate was 15 percent. If you ended up with a capital loss instead of a gain, there is no tax liability.
A special alternative valuation rule applies when an estate is large enough to be subject to federal estate taxes. As of 2012, this normally means that the estate is valued at $5 million or more. If a stock has fallen in value since the date of death, the executor of the estate has the option of using the stock price six months after the date of death as the cost basis. The reduced basis means that the value of the stock for estate tax purposes is smaller, thus reducing the estate tax.
Based in Atlanta, Georgia, W D Adkins has been writing professionally since 2008. He writes about business, personal finance and careers. Adkins holds master's degrees in history and sociology from Georgia State University. He became a member of the Society of Professional Journalists in 2009.