Accurate basis records are essential because the same sale proceeds can produce very different taxable gains depending on the basis attached to the shares that were sold.
Key Takeaways
- Basis starts with acquisition value: Purchased stocks and bonds generally begin with cost plus certain acquisition expenses.
- Adjusted basis can change later: Stock splits, nondividend distributions, reinvested distributions, gifts, inheritance, and wash sales can alter it.
- Share identification matters: Different tax lots can have different bases.
- Gain or loss depends on basis: Higher adjusted basis generally reduces taxable gain on a sale.
How Cost Basis Determines Gain or Loss
Amount realized generally reflects what the investor receives from the sale after required adjustments. If proceeds exceed adjusted basis, the transaction produces a gain; if basis exceeds proceeds, it generally produces a loss, subject to special tax rules.
What Usually Goes Into Initial Basis
For purchased stocks and bonds, basis generally starts with the purchase price plus certain acquisition costs such as commissions or transfer fees. Mutual-fund shares follow similar principles, including applicable load charges.
Property acquired in other ways can use different starting rules. Gifts can carry over all or part of the donor’s basis, while inherited property commonly uses a value tied to the decedent’s date of death, subject to exceptions.
Why Adjusted Basis Changes Over Time
Basis is not always fixed after purchase. Reinvested dividends can create new tax lots, nondividend distributions can reduce basis, and certain undistributed capital gains can increase it.
Stock splits typically require the existing basis to be spread over a larger number of shares. The total basis generally remains the same at the split itself, while basis per share changes.
Cost Basis Methods for Stocks and Funds
When investors buy the same security at different prices, they create multiple tax lots. Specific identification is generally allowed when the investor properly identifies the shares sold and receives confirmation from the broker.
If shares are not adequately identified, FIFO rules can apply. Certain mutual-fund shares can also qualify for average-basis treatment when the requirements are met.
| Method | Basic idea |
|---|---|
| Specific identification | Investor identifies the exact tax lot being sold |
| FIFO | Oldest shares are treated as sold first |
| Average basis | Eligible mutual-fund shares use an averaged per-share basis |
Wash Sales and Cost Basis
A disallowed wash-sale loss generally does not simply disappear when replacement shares are purchased in a taxable account. The disallowed loss is usually added to the basis of the replacement shares, postponing recognition until a later disposition.
An important exception applies when substantially identical securities are acquired in an IRA or Roth IRA; the tax treatment can differ and the disallowed loss is not preserved in the same way.
Inherited and Gifted Property
Inherited property often receives a basis based on fair market value at death or another permitted estate-tax valuation date, while gifted property can carry over the donor’s basis. Special dual-basis rules can apply to gifts when fair market value is below the donor’s adjusted basis.
Why Basis Records Matter
Brokers report basis for many covered securities, but taxpayers remain responsible for accurate reporting. Older positions, transfers between brokers, gifts, inherited assets, or corporate actions can leave basis data incomplete.
Keeping purchase confirmations, reinvestment records, transfer statements, and documentation of basis adjustments can prevent overpaying tax or understating taxable gain.