When a shareholder in a C corporation dies, the deferred gain locked inside the corporation’s real estate does not die with them — it survives, untouched, because corporate property receives no stepped-up basis at a shareholder’s death. Partnerships and LLCs face no such trap: by making an IRC Section 754 election at the death of an owner, those entities can step up the basis of the underlying property in the hands of the beneficiary, turning a lifetime of tax deferral into permanent tax elimination.
What Basis Actually Means
Every piece of real estate you own has a basis — the number that determines your gain when you eventually sell. For purchased property, IRC Section 1012 sets the starting point at cost: purchase price plus acquisition costs plus improvements, minus depreciation claimed over the years. Buy a duplex for $285,000, spend $10,000 closing it and $30,000 improving it, and your basis opens at $325,000. Rent it out, and the depreciation clock runs. After five years of $10,000 annual depreciation on a $275,000 depreciable basis, that number has fallen to $275,000 — and every dollar of depreciation claimed becomes recapture exposure when you sell.
Gifted property offers no relief. Under IRC Section 1015, the recipient simply inherits the donor’s basis — the accumulated gain and recapture travel with the property as if nothing happened.
The Step-Up: IRC Section 1014
Inherited property is different. IRC Section 1014(a) resets the basis of a decedent’s property to its fair market value as of the date of death. Every dollar of deferred capital gain and every dollar of depreciation recapture that built up over a lifetime disappears. Tax-deferred becomes tax-free. That reset is the payoff for a strategy built around 1031 exchanges: keep exchanging, and at death your heirs take the property at stepped-up basis — the accumulated gain vanishes entirely.
The mechanism is straightforward when a single individual owns property in their own name. The complexity begins the moment a business entity is involved.
Partnerships and LLCs: The 754 Election
For real estate held in a partnership or LLC, the step-up does not happen automatically — but it is available. By making an IRC Section 754 election at the death of an owner, the partnership or LLC steps up the basis of the entity’s property in the hands of the beneficiary. The gain that would otherwise survive the owner’s death is extinguished at the entity level.
An LLC has flexibility here. It can elect to be treated as a disregarded entity or as a partnership for tax purposes — either way, the 754 election remains accessible. The one thing an LLC cannot do is elect to be treated as a C corporation if it wants to preserve this path.
C Corporations: The Structure That Forfeits the Exit
A C corporation provides no equivalent mechanism. When a shareholder dies, the corporation’s real estate keeps its existing inside basis unchanged. The shareholder’s stock may receive a stepped-up basis in the heir’s hands, but the gain embedded in the property itself — capital gain and depreciation recapture accumulated over decades — remains alive inside the entity. There is no election, no workaround, no equivalent to Section 754. Holding real estate inside a C corporation is the one structure that permanently forecloses this exit.
The Spousal Angle
How much of the estate receives the step-up at death also depends on how spouses hold title. In a joint tenancy, only the deceased spouse’s share steps up — the survivor’s original cost basis stays put. In the nine community property states (Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin), the entire property steps up at the first spouse’s death, not just the decedent’s half. Alaska allows spouses to opt into a community property arrangement as well.
The Full Lifetime Plan
Stepped-up basis is most powerful as the final act of a deliberate strategy. Section 1031 defers gain through every exchange. Section 121 shelters gain on a primary residence. And Section 1014 — combined with the Section 754 election where an entity holds the property — eliminates whatever remains at death. Holding real estate in a partnership or LLC preserves access to all three.