The form is trying to determine the Adjusted Basis (purchase price plus improvements minus adjustments such as depreciation) vs the Fair Market Value on the date of the gift. The loan payoff has nothing to do with the calculations. The basis of gift property is below. Most houses appreciate between purchase and gift. In this case, just use the adjusted basis. You are not allowed to gift a stepped up basis.
To figure out the basis of property
you receive as a gift, you must know three amounts:
- The adjusted cost basis to the donor just before the
donor made the gift to you.
- The fair market value (FMV) at the time the donor made
the gift.
- The
amount of any gift tax paid on Form 709, United States Gift (and Generation-Skipping Transfer)
Tax Return.
If the FMV
of the property at the time of the gift is less than the donor's adjusted basis, your adjusted basis depends on whether you have
a gain or loss when you dispose of the property.
- Your basis
for figuring a gain is the same as the
donor's adjusted basis, plus or minus any required adjustments to basis
while you held the property.
- Your basis
for figuring a loss is the FMV of the
property when you received the gift, plus or minus any required
adjustments to basis while you held the property.
Note: If you use the
donor's adjusted basis for figuring a gain and get a loss, and then use the FMV
for figuring a loss and get a gain, you have neither a gain nor loss on the
sale or disposition of the property.
If the FMV
is equal
to or greater than the donor's adjusted basis, your basis is the donor's adjusted basis at the time you
received the gift. If you received a gift after 1976, increase your basis by
the part of the gift tax paid on it that is due to the net increase in value of
the gift. To figure out the net increase in value or for other information on
gifts received before 1977, see Publication 551, Basis of Assets. Also, for figuring gain or loss, you
must increase or decrease your basis by any required adjustments to basis while
you held the property
