On EA Exam Part 1, gifted property usually keeps the donor's adjusted basis, while inherited property takes a new basis equal to its fair market value on the date of death. Two twists follow from that rule: a gift that has lost value gets a dual basis, and inherited property is always treated as held long term.
Basis questions look simple, which is why they cost points. A preparer who knows inherited stock gets a step-up can still miss the question where the stock was worth less at death. This guide from VantageEA, an Enrolled Agent (EA) exam practice platform, covers each basis rule Part 1 tests, from the dual basis rule to the exceptions.
What basis do you take in property received as a gift?
For a gift, your basis is generally the donor's adjusted basis at the time of the gift: what the donor paid, plus improvements, minus any depreciation the donor claimed. The tax code calls this carryover basis (IRC Section 1015), and IRS Publication 551, Basis of Assets, explains it under property received as a gift.
- Example: a mother bought shares for $8,000 and gives them to her son when they are worth $20,000. His basis is $8,000, so a later sale for $21,000 produces a $13,000 gain.
- Holding period: the donor's holding period is added to the son's, so his gain is long term if the combined time exceeds one year.
- Form 709 value: the donor reports the gift at fair market value. The donor's basis is not used for this figure.
A gift shifts the donor's built-in gain to the person who receives it (the donee) without erasing it.
How does the dual basis rule work when a gift has lost value?
When the fair market value (FMV) on the date of the gift is lower than the donor's adjusted basis, the donee has two bases. You use the donor's basis to measure a gain and the FMV at the date of the gift to measure a loss. If the sale price lands between the two, you report neither.
The rule keeps a donor from shifting a built-in loss to someone who can use it. Here is how it plays out when an aunt gives her niece land with an adjusted basis of $50,000 and an FMV of $36,000 on the date of the gift:
| Niece's sale price | Basis used | Result |
|---|---|---|
| $58,000 | $50,000 (donor's basis) | $8,000 gain |
| $30,000 | $36,000 (FMV at the gift) | $6,000 loss |
| $41,000 | Neither (price falls between) | No gain or loss |
If the FMV loss basis applies, the holding period starts the day after the gift, so a quick sale can produce a short-term loss. The last row is the classic exam setup: when the sale price falls between the two bases, the answer is zero.
When does gift tax paid increase the donee's basis?
Only when the donor actually paid gift tax, and then only the share of that tax tied to the property's net appreciation. Because the lifetime exemption shelters most gifts, a typical exam fact pattern says no gift tax was paid, and the adjustment is zero.
For gifts made after 1976, Publication 551 gives the formula: gift tax paid, multiplied by the net increase in value (FMV minus the donor's adjusted basis), divided by the amount of the gift. The amount of the gift is its value after any marital or charitable deduction and the annual exclusion, which the IRS set at $19,000 per recipient for 2025.
- Facts: in 2025 a father, whose lifetime exemption is used up, gives his daughter a lot worth $119,000 with a $59,000 basis and pays $40,000 of gift tax.
- Amount of the gift: $119,000 minus the $19,000 exclusion, or $100,000.
- Net increase in value: $119,000 minus $59,000, or $60,000.
- Result: $40,000 times $60,000 over $100,000 adds $24,000, so her basis is $83,000.
The adjustment never applies to property that has lost value, because there is no appreciation to allocate. No gift tax paid means no basis adjustment.
What basis do you take in inherited property?
Inherited property generally takes a basis equal to its FMV on the date of the decedent's death (IRC Section 1014). The decedent's original cost, improvements, and depreciation all drop out of the calculation, as IRS Publication 559, Survivors, Executors, and Administrators, explains for heirs and estates.
People call this a step-up, but the rule works in both directions:
- Step-up: a nephew inherits land his aunt bought for $42,000 that is worth $175,000 when she dies. A sale four months later for $181,000 produces a $6,000 long-term gain.
- Step-down: stock bought for $90,000 is worth $60,000 at death. The heir's basis is $60,000, and the $30,000 loss is gone for good.
- Improvements before death: a remodel paid for shortly before death adds nothing on its own, because the FMV already reflects it.
Value at death sets the basis, whichever way it moved.
When can an executor use the alternate valuation date?
The executor can elect to value the estate six months after the date of death. The election is made on Form 706, and it is allowed only when it lowers both the value of the gross estate and the combined estate and generation-skipping transfer tax.
That second condition is the trap. An estate that owes no estate tax cannot make the election, so heirs use date-of-death value even if the market fell afterward.
- All or nothing: the election covers all property in the estate. It cannot be applied to selected assets.
- Early sales and distributions: property sold or distributed within the six months is valued on that date. If a decedent dies March 10, 2025, shares distributed on July 22 take their July 22 value, and the rest of the estate is valued on September 10.
When a question says the estate filed no Form 706, rule out every answer built on the six-month value.
How do gift and inherited basis compare, including holding periods?
Most Part 1 basis questions come down to five differences, and the holding period is the one candidates forget. Property acquired from a decedent is treated as held for more than one year, even if the heir sells it a week after the funeral (IRC Section 1223(9)). A gift is long term only when the donor's and donee's holding periods together pass one year.
| Rule | Gift during life | Inheritance at death |
|---|---|---|
| Starting basis | Donor's adjusted basis | FMV on the date of death or the alternate valuation date |
| Value below the old basis | Dual basis: donor's basis for gain, FMV for loss | Basis steps down to FMV, and the loss disappears |
| Holding period | Includes the donor's period, unless the FMV loss basis applies | Always long term |
| Transfer tax and basis | Gift tax on net appreciation can be added | Estate tax paid does not change basis |
| Return that values the transfer | Form 709, at FMV | Form 706, at FMV |
The holding period rows follow IRS Publication 544, Sales and Other Dispositions of Assets, and you can drill them in the capital gains and sale of residence topic. An appreciated asset passed at death sheds its built-in gain, while the same asset given during life keeps it, which is why the estate, gift, and trust basics topic overlaps so heavily with basis.
How do spouses, joint tenancy, and community property change the answer?
Transfers between spouses during life, or to a former spouse incident to divorce, use carryover basis with no dual basis rule (IRC Section 1041). The receiving spouse takes the transferor's adjusted basis even when the property is worth less than that basis.
At death, title decides how much steps up. Suppose a married couple paid $240,000 for a vacation home that is worth $600,000 when one spouse dies:
| How the couple held title | Portion stepped up | Survivor's new basis |
|---|---|---|
| Joint tenancy with right of survivorship, non-community property state | Decedent's half only | $120,000 plus $300,000, or $420,000 |
| Community property (community property state) | Both halves | $600,000 |
The community property result applies when at least half of the community interest is included in the decedent's gross estate. Community property is the one case where the surviving spouse's own half also steps up.
Which inherited assets never get a step-up?
Items of income in respect of a decedent (IRD) keep the decedent's basis, which is often zero (IRC Section 1014(c)). These are amounts the decedent earned or had a right to but was never taxed on.
- Retirement accounts: traditional IRA and 401(k) balances, taxed to the beneficiary as ordinary income when distributed, apart from any nondeductible contributions.
- Unpaid compensation: wages, bonuses, or commissions earned before death and paid afterward.
- Installment sale payments: the deferred gain on a note the decedent was still collecting.
A second exception targets deathbed planning. If someone gives appreciated property to a person who dies within one year, and it passes back to the donor or the donor's spouse, the donor takes the decedent's adjusted basis just before death (IRC Section 1014(e)). A father who gives his ill daughter appreciated stock with a $20,000 basis, then inherits it back when she dies nine months later, still has a $20,000 basis. Income never taxed to the decedent stays taxable in the heir's hands.
Which basis traps cost the most points on Part 1?
Part 1 (Individuals) had the lowest pass rate of the three parts, 58% in the 2024-2025 testing year, according to figures compiled from Prometric score data (the IRS does not publish official pass rates). Basis is a common place to lose points there, because each short rule carries an exception.
- Using the donor's basis for a loss when the FMV at the gift was lower.
- Reporting a gain or loss on a sale price that falls between the two bases.
- Calling an inherited asset short term because the heir sold it quickly.
- Assuming a step-up when the asset fell in value or is an inherited IRA.
- Applying the six-month value when no Form 706 was filed.
- Stepping up both halves of joint tenancy property outside a community property state.
Try this scenario. A brother receives a painting worth $9,000 from his sister, whose basis was $14,000. He hangs it at home and later sells it for $6,000. He deducts nothing, because a loss on personal-use property is never deductible. For the wider picture, read why Part 1 is the hardest EA exam part and the EA exam pass rates by part breakdown, or see the EA exam statistics page.
How should you study basis rules for the 2026 EA exam?
Each part of the Special Enrollment Examination (SEE) has 100 questions (85 scored and 15 experimental) in a 3.5-hour appointment, and you need a scaled score of 500 on the 200 to 800 scale to pass. According to the IRS Enrolled Agents FAQ, the US window runs July 1, 2026 to February 28, 2027. PSI administers the exam, and the fee is $317 per part.
A focused plan for basis looks like this:
- Build a one-page chart with a gift column, an inheritance column, and the spousal rules.
- Work each dual basis problem at three sale prices: above the donor's basis, below the FMV, and in between.
- Answer timed questions and review each miss by the rule it tested.
Basis sits in the EA Part 1 exam overview, and the guide to which EA exam part to take first explains why most candidates start there. The week-by-week EA exam study schedule shows where it fits. VantageEA EA mock tests report your number correct out of 100, with 70 correct as the pass mark, plus an estimated PSI score range. Start with a free EA practice test.
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