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Deciding what to do with an inherited house

  • An inherited home gets beneficial tax treatment, with its "stepped-up" cost basis.
  • Whether renting or selling, allow plenty of time to go through remaining belongings.

When the family home gets passed on to heirs after the death of parents or other relatives, there are three options that beneficiaries typically choose: live in it, rent it or sell it.

If you're uncertain about what to do, even tackling the task of figuring out how to proceed can seem overwhelming, especially while grieving.

"I recommend inheritors wait if they can afford to," said certified financial planner Mitchell Kraus, a partner with Capital Intelligence Associates in Santa Monica, California.

"If they have the cash flow [to keep up with the expenses of the home] to delay the decision a couple months, it's more likely they'll make a long-term rational decision and not a clouded, emotional one," Kraus said.

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Ian Nolan | Getty Images

At that point, it might be easier to weigh the pros and cons of your options.

For starters, it's important to know that for tax purposes, Uncle Sam treats an inherited house as an asset similar to, say, inherited stock.

As such, you get a tax benefit: When you go to sell the house — whether immediately or years in the future — any capital gains are based on what's called the "stepped-up" cost basis — i.e., the fair-market value at the time of your parent's death — not their original purchase price.

For instance, if your mom paid $100,000 for her house in 1980 and its fair-market value at her death in 2017 is $350,000, only the difference between that updated amount (the new cost basis) and the sale price would be considered a long-term capital gain.

Right now, rates on those gains can range from as high as 20 percent for higher-income taxpayers to zero percent for lower-income taxpayers. (See chart)

What you pay on appreciated assets

Income
Tax Bracket
Capital Gains Rate
Up to $9,325 10 percent 0 percent
$9,326 to $37,950 15 percent 0 percent
$37,951 to $91,900 25 percent 15 percent
$91,901 to $191,650 28 percent 15 percent
$191,651 to $416,700 33 percent 15 percent
$416,701 to $418,400 35 percent 15 percent
$418,401 and over 39.6 percent 20 percent

If you decide to live in the house, the tax treatment changes as long as you live there for at least two years. That is, when you eventually sell the property, you're permitted the current capital gains exclusions on primary residences: $250,000 for individual taxpayers and $500,000 for married couples filing jointly.

If you don't want to sell the home and have no interest in living in it, renting it out can be an option for some sudden homeowners.

"Renting can provide some monthly income. That can be really good, especially if the beneficiary of the house is near retirement," Kraus said. "But, it also can be a hassle with maintenance and repairs, and there can be gaps in between tenants if you don't have a long-term renter."

Some heirs solve that problem by hiring a property management company, which takes over many of the duties of a landlord. While the cost for these services can vary wildly depending on where you live, the typical firm charges between 8 percent and 12 percent of the rent, according to AllPropertyManagement.com.

If you decide to sell, keep in mind that it takes time to prepare the house for sale. For starters, you have to go through everything in the home. Sometimes there can be a lifetime of stuff crammed into every drawer and shelf in the house, basement, attic, garage and shed.

"Renting can provide some monthly income. That can be really good, especially if the beneficiary of the house is near retirement." -Mitchell Kraus, CFP and partner with Capital Intelligence Associates

"There's a lot involved in deciding what to do with all the stuff," said CFP DeDe Jones, managing director at Innovative Financial in Lakewood, Colorado. "Do you save it? Sell it? Give it away? It isn't always an easy decision."

Remember, too, that if there's a mortgage (traditional or reverse) on the house or a tax lien attached to it, those debts either need to be paid off or the proceeds of the house sale will be needed to satisfy those obligations.

If you inherit a house that's underwater — the amount owed on the mortgage is greater than the market value — it's best to discuss a short sale with the lender.

And of course, there's always the chance you don't even want to deal with the property at all. If that's the case, you'll be glad to know that generally speaking, you don't have to accept it.

"If the expenses of inheriting the house look to be more than the value, I'd suggest working with an attorney to not accept the inheritance," Kraus said.