What Is the Cost or Other Basis of an Asset?

An asset’s basis is your investment amount in it for tax purposes, which is the starting point for calculating a capital gain or loss when you sell the property. A higher basis can mean a smaller taxable gain and a lower tax bill. This concept applies to most property, including real estate, stocks, and business equipment. The rules for determining basis vary depending on how you acquired the asset and what occurred during your ownership.

Determining Cost Basis

When you purchase an asset, its initial basis is its cost to you. This “cost basis” is the amount you pay in cash, debt, or other property, and includes the purchase price plus many expenses connected with the acquisition.

For real estate, the cost basis includes the contract price plus certain settlement fees and closing costs. These can include:

• Abstract fees
• Charges for installing utility services
• Legal fees
• Recording fees
• Surveys
• Transfer taxes
• Title insurance

Some settlement fees, like fire insurance premiums, are not included in the basis.

When you buy stocks or securities, your cost basis is the purchase price plus any associated costs, such as a broker’s commission or transfer fees. For example, if you buy 100 shares at $50 per share and pay a $25 commission, your total cost basis is $5,025.

Understanding Other Basis Rules

The method for determining basis changes if you acquire an asset through inheritance or as a gift. These situations have specific rules that affect the basis and future tax liability. The way you receive the property dictates if its basis is determined by its value at transfer or by the previous owner’s basis.

Inherited Property

For property received from a decedent, the basis is its fair market value (FMV) on the date of the owner’s death. This is known as a “stepped-up” basis because it often increases to the current market value, which can erase the taxable gain accumulated during the decedent’s life. For instance, if you inherit stock bought for $10,000 that was worth $100,000 on the date of death, your basis becomes $100,000.

If the asset has decreased in value, the basis is “stepped down.” The executor of the estate may use an alternate valuation date, which is six months after the date of death. The value determined for federal estate tax purposes, as reported on Form 706 and provided to heirs on Form 8971, must be used by the beneficiary as their basis.

Gifted Property

For property received as a gift, the recipient’s basis is the same as the donor’s adjusted basis at the time of the gift. This is known as a “carryover basis.” For example, if your parent gives you stock they purchased for $2,000, your basis is also $2,000, regardless of its value when you received it.

A dual-basis rule applies if the property’s FMV is less than the donor’s adjusted basis when the gift is made. Your basis for calculating a future gain is the donor’s basis, but your basis for calculating a future loss is the lower FMV at the time of the gift. If you sell the property for a price between these two figures, you recognize neither a gain nor a loss, a rule found in Internal Revenue Code Section 1015.

Calculating Adjusted Basis

Over time, certain events require you to adjust an asset’s initial basis, creating a new figure called the “adjusted basis.” You increase the basis for new investments and decrease it for certain tax benefits received.

Increases to basis come from capital improvements, which are costs that add value, prolong the property’s life, or adapt it to new uses. For a rental property, this could include a new roof or heating system. These costs are added to your basis, while routine repairs like painting are deducted as current expenses and do not affect basis.

Decreases to basis result from items that recover your cost, such as the annual depreciation deduction for business or rental property. Other reductions include insurance reimbursements for casualty losses and deductible casualty losses not covered by insurance. For example, a rental property with a $300,000 basis, a $20,000 deck addition, and $40,000 in depreciation would have an adjusted basis of $280,000.

Basis of Stocks and Securities

The principles of basis apply to stocks and securities, but this asset class has unique adjustments. Brokerage firms must track and report basis information to the IRS on Form 1099-B for most securities.

When you reinvest dividends to buy more shares, the amount of the reinvested dividend is added to your total basis. Each reinvestment is a new purchase of shares with its own cost basis and holding period.

Corporate actions like stock splits also affect your basis. A stock split changes the number of shares you own but not your total investment. For example, in a 2-for-1 split, you will own twice as many shares, and your basis per share will be cut in half while your total basis remains the same.

When selling a portion of your shares in a stock, you must identify which shares you sold. The default IRS method is First-In, First-Out (FIFO), where the first shares bought are considered the first sold. You can also use the specific identification method to choose which shares to sell, giving you more control over the recognized capital gain or loss.

The wash sale rule prevents you from claiming a loss if you sell a security and buy a substantially identical one within 30 days before or after the sale. The disallowed loss is added to the cost basis of the new replacement shares, which defers the tax benefit until you sell the new shares.