My wife's mother passed away last year with an estate valued at about 1.5 million. Part of her estate is a house that is owned outright valued around 500K. My wife is one of 6 children who will be sharing the estate equally. My wife does not want the house, but the other siblings want to keep it. They have agreed to buy her out by paying her cash for her 'share'. I am concerned that by accepting this money from her siblings, it would not now be considered an inheritance and therefore subject to income tax. Thanks

Yes it is an inheritance, but neither CA nor the federal government have an inheritance tax, so your wife owes nothing on that score. And you do not pay income tax on inheritances. However, when she sells her 1/6 to her siblings there may be a capital gain tax issue. Because her mother passed away in 2009, your wife's portion of the house has a tax cost basis of 1/6 of the fair market value of the property as of the date of death, which you say is $500K/6 = $83.3K. If she receives more than that amount from her sisters she has a gain that she must report on schedule D. If she receives less, it's a personal loss, which unfortunately she can not deduct.

It gets worse if her mother actually died in 2010 - in this case your wife's cost basis is 1/6 of her mother's cost basis, which makes it more likely that capital gains taxes would be owed. And it may be a bit difficult to figure out what that cost basis is unless her mother kept meticulous records (this complication is due to congress's having abolished federal estate taxes for the year 2010, which therefore eliminated the old cost basis "step up" provision).

Thanks for tha answer. So, the only time we would need to report the income of the "sale" is if her share is more than her basis (which unfortunately is not the case). The house has declined in value since her passing.