The Half Step-Up Problem - and the Trust Route Five States Added

Two systems can produce two first-death answers

In the nine true community-property states, qualifying community property can receive a basis adjustment on both spouses' interests at the first death under Internal Revenue Code Section 1014(b)(6). In a common-law state, jointly owned property is often analyzed interest by interest, so the deceased spouse's share may adjust while the survivor's original share keeps its existing basis.

The ownership form, estate inclusion, property character, entity structure, and governing law still control the result. "Jointly owned" is not a complete basis conclusion.

An illustrative property comparison

Assume a married couple owns a building with:

• $600,000 of aggregate adjusted basis
• $3 million of fair market value at the first death
• Equal ownership, with all other facts simplified

If only one half receives a basis adjustment, the survivor's aggregate basis would be approximately $1.8 million, leaving approximately $1.2 million of built-in gain. At an illustrative 23.8% federal rate, that is $285,600 of potential federal tax exposure before state tax, depreciation character, deductions, transaction costs, and entity-level facts.

If the property qualifies for a full community-property adjustment, aggregate basis could approximate the $3 million fair market value at that date. That comparison explains why the structure deserves attention. It does not promise a sale result.

Five states added an elective trust route

Alaska, Tennessee, South Dakota, Kentucky, and Florida authorize forms of elective community-property trusts or special spousal trusts. Each statute has its own signing, trustee, property-characterization, administration, and disclosure rules.

The federal issue deserves a full sentence: IRS Publication 555 expressly says it does not address the federal tax treatment of community-property elections under Alaska, Tennessee, or South Dakota law. State authorization therefore does not, by itself, confirm the federal basis outcome for a particular trust.

The Tennessee route

Tennessee's Community Property Trust Act requires the instrument to declare that it is a Tennessee community property trust, be signed by both settlor spouses, include statutory disclosures, and include at least one qualified trustee. The trust document, title, trustee, asset type, property location, and home-state law all belong in the legal review.

For real estate held through an entity, the advisor team must also distinguish the underlying property from the ownership interest being transferred to the trust.

Three trade-offs belong beside the projection

Federal treatment

The attorney and CPA should document the authority, assumptions, reporting position, and remaining uncertainty instead of presenting an elective trust as an automatic double step-up.

Protection and title

Retitling can change tenancy-by-the-entirety, creditor, control, divorce, and beneficiary consequences. A projected basis benefit should not silently displace a protection the family values more.

Family and implementation facts

Marriage stability, trustee selection, state connections, property situs, entity restrictions, existing A/B provisions, and administrative cost can all change the fit.

What JPOPE reviews

• Basis, fair market value, depreciation history, debt, and embedded gain by asset
• Current title, entity ownership, property location, domicile, and trust situs
• Potential half-adjustment and full-adjustment scenarios using the same assumptions
• Protection, control, divorce, beneficiary, and liquidity trade-offs
• Statutory and federal questions for the estate attorney and CPA
• An implementation map that keeps drafting, tax reporting, appraisal, and retitling responsibilities visible

JPOPE planning lens

The right first move is not to sell a trust. It is to quantify the difference, identify the state-law route, show the uncertainty, and decide whether the projected benefit is large enough to justify attorney and CPA review.

JPOPE provides the property economics and advisor brief. Estate counsel determines whether and how a trust can be used, and the CPA determines the tax-return position.

Primary sources reviewed

• IRS Publication 555: Community Property
• Internal Revenue Code Section 1014
• Tennessee Public Chapter 658: Community Property Trust Act
• Kentucky Revised Statutes Chapter 386
• Florida Community Property Trust Act
• South Dakota Codified Laws Chapter 55-17

Sources were reviewed July 17, 2026. The numerical example is illustrative and omits facts that can materially change a real taxpayer's result. This briefing is educational and does not replace legal, tax, creditor, valuation, or estate-planning advice.