With an inherited house like in your question the purchase price doesn't matter at all. You use the fair market value on date of death whether it's a step up OR a step down. If it was only worth $176k on the date of her death then that's the basis and it doesn't matter if she paid more for it. But your sister can exclude her share of the gain because she owned and lived in the house for 2 or more years out of the last 5. You can't because you didn't live there.
