Cost Basis Complications

October 5, 2009 by: The Tax Man

You can sell investments held in tax-deferred retirement accounts without worrying about income taxes. But that’s not the case with investments you own outside of tax-deferred accounts. To figure your capital gain or loss on the sale of mutual fund, stock, real estate, and other investments, you have to compare the amount you realize on the sale to your “adjusted basis” in the investment.

Understanding Tax in India

Start with Cost Your cost is usually the starting point for figuring your adjusted basis. Cost includes amounts paid in cash or other property, plus commissions, legal fees, and various closing costs (if applicable). If you assume the seller’s mortgage or another liability in connection with your purchase, that amount is also considered part of your cost. Certain fees and expenditures incurred in acquiring an asset are also generally considered costs. Then Adjust Amounts you spend for capital improvements to real estate (a new deck or addition, for example) increase your cost basis; depreciation decreases it. A stock split lowers your cost basis in the original shares because you must spread your initial cost among more shares. And other adjustments may have to be made in certain situations. Gifts For an investment you received as a gift, you’ll need to know the donor’s adjusted basis and the investment’s fair market value on the gift date, as well as the amount of any gift taxes the donor paid. In general, the donor’s adjusted basis carries over to you (with a possible increase for a portion of gift taxes paid). However, if the investment was worth less on the date of the gift than the donor’s adjusted basis, you must use that lower fair market value for purposes of computing capital loss on the sale. Inheritances If you inherit an appreciated investment, you may get an income-tax break. Why? Your basis generally will be “stepped up” to the investment’s fair market value at the time of death. This means the appreciation that accrued before that date won’t be subject to capital gains tax when you sell the investment. Under current law, such basis step-ups are limited in 2010, but Congress may change the rules before then.