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Frequently Asked Tax Questions And Answers
Keyword: Cost Basis
3.4 Itemized Deductions/Standard Deductions: Interest, Investment, Money Transactions (Alimony, Bad Debts, Applicable Federal Interest Rate, Gambling, Legal Fees, Loans,
etc.)
Where are fees and commissions for investments deducted?
If they are deductible, investment expenses other than investment interest
are taken as miscellaneous deductions on Form 1040, Schedule A (PDF), Itemized Deductions. These deductions must
be reduced by 2% of your adjusted gross income.
Commissions and fees for the acquisition or sale of an asset are added
to the basis of that asset and are not deductible. For example, acquisition
fees, sales commissions, and load charges paid in connection with the purchase
or selling of mutual fund shares are not deductible. They can usually be added
to the basis of the shares.
Fees for managing investments, such as custodial fees and management fees,
are deductible. Fees you pay a broker to collect taxable bond interest or
stock dividends are deductible. Fees that pass through to you from non-publicly
offered mutual funds, partnerships, or trusts are deductible. All of these
fees are subject to the 2% limit. For more information, refer to Publication 529, Miscellaneous Deductions; Publication 550, Investment
Income and Expenses; and Publication 564, Mutual Fund Distributions.
References:
3.6 Itemized Deductions/Standard Deductions: 6. Real Estate (Taxes, Mortgage Interest, Points, Other Property Expenses)
May I deduct my home improvements and repairs to my home?
Home improvements add to the value of your home, prolong its useful life,
or adapt it to new uses. Home improvements costs are not deductible. However,
you add the cost of improvements to the basis of your property.
Examples of improvements include putting a recreation room in your unfinished
basement, adding another bathroom, or bedroom, putting up a fence, putting
in new plumbing or wiring, putting on a new roof, or paving your driveway.
For a list of some other examples of improvements, refer to Publication 523, Selling
Your Home.
Repairs maintain your home in good condition. They are not currently deductible
nor do they add to your home's value or prolong its life. You do not add their
cost to the basis of your property.
Some examples of repairs include repainting your house inside or outside,
fixing your gutters or floors, repairing leaks or plastering and replacing
broken window panes.
Exception: The entire job is considered an improvement, however, if items
that would otherwise be considered repairs are done as part of an extensive
remodeling or restoration of your home. For more information, refer to Publication 523; Selling Your Home; and Publication 551, Basis
of Assets.
References:
10.1 Capital Gains, Losses/Sale of Home: Property (Basis, Sale of Home, etc.)
What is the basis of property received as a gift?
To figure the basis of property you get as a gift, you must know its adjusted basis
to the donor just before it was given to you. You also must know its fair market value
(FMV) at the time it was given to you. If the FMV of the property at the time of the
gift is less than the donor's adjusted basis, your basis depends on whether you have
a gain or loss when you dispose of the property. Your basis for figuring 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. See Adjusted Basis in Publication 551, Basis of Assets.
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 or 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. Increase your basis
by all or part of any gift tax paid, depending on the date of the gift. Also, for
figuring gain or loss, you must increase or decrease your basis by any required adjustments
to basis while you held the property. See Adjusted Basis in Publication 551, Basis
of Assets.
If you received a gift before 1977, increase your basis in the gift (the donor's
adjusted basis) by any gift tax paid on it. However, do not increase your basis above
the FMV of the gift at the time it was given to you.
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. Figure the increase
to basis by multiplying the gift tax paid by the following fraction. The numerator
of the fraction is the net increase in value of the gift and the denominator is the
amount of the gift.
The net increase in value of the gift is the FMV of the gift less the donor's adjusted
basis. The amount of the gift is its value for gift tax purposes, after reduction
by any annual exclusion and any marital or charitable deduction that applies to the
gift. For more information on the gift tax, please see Publication 950, Introduction
to Estate and Gift taxes.
For additional information on this subject see Gifts.
References:
I have investment property. Can you explain the term basis
of assets?
Basis is your investment in property for tax purposes. Before you can figure any
gain or loss on a sale, exchange, or other disposition of property, or figure allowable
depreciation, you must determine the adjusted basis. Adjusted basis is the result
of increasing or decreasing your original basis according to certain events. Your
original basis is usually your cost to acquire the asset.
Increases to basis include but are not limited to:
. Improvements having a useful life of more than a year
. Assessments for local improvements
. Sales tax
. The cost of extending utilities lines to the property
. Legal fees such as the cost of defending or perfecting title
. Zoning costs
Decreases to basis include but are not limited to:
. Depreciation
. Nontaxable corporate distributions
. Casualty and theft losses
. Easements
. Rebates from the manufacturer or seller
Additional information on basis can be found in Publication 551, Basis
of Assets, or Tax Topic 703, Basis of Assets.
References:
10.2 Capital Gains, Losses/Sale of Home: Stocks (Options, Splits, Traders)
I received stock as a gift from my grandparents. I am selling the stock
this year. How can I figure the basis of the gifted stock?
To figure the basis of property you receive as a gift, you must know its adjusted
basis to the donor just before it was given to you, its fair market value (FMV) at
the time it was given to you, and the amount of any gift tax paid on it.
If the FMV of the property was less than the donor's adjusted basis, your basis
for figuring gain on its sale or other disposition is the same as the donor's adjusted
basis plus or minus any required adjustment to basis during the period you held the
property. Your basis for figuring loss on its sale or other disposition is its FMV
at the time you received the gift plus or minus any required adjustment to basis during
the period you held the property.
If the FMV of the property was equal to or greater than the donor's adjusted basis,
your basis for figuring gain or loss on its sale or other disposition is the same
as the donor's adjusted basis at the time you received the gift. Increase your basis
by all or part of any gift tax paid, depending on the date of the gift.
For further complete information, refer to Publication 17, chapter 14, Basis
of Property.
For additional information on this subject see Gifts.
References:
When I sell shares of stock in a company that merged with the company I
originally invested in, do I use the basis and holding periods based on the purchase
of shares in the original company?
When you trade stock in one corporation for stock in another as part of a merger
or other qualifying reorganization, you may have a nontaxable exchange. The basis
of the stock you received is generally the same as the basis of the old stock, increased
by any gain recognized on the exchange (including gain that is treated as a dividend)
and decreased by the value of property or money received.
You may receive cash or something of value instead of a fractional share if the
number of shares of new stock doesn't divide evenly into the number of shares of the
old stock. You treat this as a sale of the fractional share.
Your basis in the new stock is determined, in whole or in part, by your basis in
the old stock. Your holding period for the new stock will include the holding period
for the old stock, provided that the old stock was held as a capital asset at the
time of the exchange. For special basis rules relating to incentive stock options
and options granted under employee stock purchase plan see Revenue Ruling 80-244,
in IRS 1980-2 Cumulative Bulletin at page 235.
Refer to Publication 550, Investment Income and Expenses.
References:
How do I figure the cost basis of stock that has split, giving me more of
the same stock, so I can figure my capital gain (or loss) on the sale of the stock?
When the old stock and the new stock are identical the basis of the old shares
must be allocated to the old and new shares. Thus, you generally divide the adjusted
basis of the old stock by the number of shares of old and new stock. The result is
your new basis per share of stock. If the old shares were purchased in separate lots
for differing amounts of money, the adjusted basis of the old stock must be allocated
between the old and new stock on a lot by lot basis.
References:
When my stock split, the stock distributed to me was different than my original
shares. How do I figure the basis of the shares of the two different kinds of stock?
Usually, the company issuing the new type of stock will send you a letter explaining
the tax consequences of the stock distribution, including how to calculate the basis
in the two different types of stock.
If you did not get such a letter or would like further assistance, call IRS customer
service at 1-800-829-1040 or refer to Publication 550, Investment Income
and Expense : Stock dividends under Basis
of Investment Property .
References:
How do I calculate the cost basis of the shares that have split and are
later sold from my employee stock purchase plan?
You need to determine what your basis is in the company stock on the date of the
split. The new shares assume part of your basis in the company stock on that date.
You must divide the adjusted basis in the old stock by the number of shares of old
and new stock. The result is your basis for each share of stock.
For example, if you owned two shares of company stock with a basis in one at $30
and the other $45, and the company declares a three for one stock split, you now have
six shares of stock. Three of the shares will have a basis of $10, and three will
have a basis of $15.
Because this is an Employee Stock Option Plan, you may have to report some or all
of the gain on the sale of this stock as ordinary income (wages). For more information
about employee stock option plans, see Publication 525 , Taxable
and Nontaxable Income.
References:
How do I prepare Schedule D for various stocks when records as to the original
purchase price have been lost?
The basis of stocks or bonds you own generally is the purchase price plus the costs
of purchase, such as commissions and recording or transfer fees. If you acquired stock
or bonds other than by purchase, your basis is usually determined by fair market value
or the previous owner's adjusted basis.
The basis of stock must be adjusted for certain events that occur after purchase.
For example, if you receive more stock from nontaxable stock dividends or stock splits,
you must reduce the basis of your original stock. You must also reduce your basis
when you receive nontaxable distributions, because these are a return of capital.
The taxpayer has the burden of proving the basis of property.
Failure to prove cost results in a basis determined by the IRS or even a basis of
zero.
Except for certain mutual fund shares, you cannot use an average price per share
to figure the gain or loss on the sale of stock.
Refer to Stocks and Bonds under Basis of
Investment Property in chapter 4 of Publication 550, Investment
Income and Expenses .
References:
How do I figure the cost basis when the stocks I'm selling were purchased
at various times and at different prices?
If you can identify which shares of stock you sold, your basis is what you paid
for the shares sold (plus sales commissions). If you sell a block of the same kind
of stock, you can report all the shares sold at the same time as one sale, writing VARIOUS in the "date acquired" column of Form 1040, Schedule D (PDF). However, what you enter into the "cost or other basis" column
is the total of all the acquisition costs of the shares sold.
If you cannot adequately identify the shares you sold and you bought the shares
at various times for different prices, the basis of the stock sold is the basis of
the shares you acquired first (first-in first-out). Except for certain mutual fund
shares, you cannot use the average price per share to figure gain or loss on the sale
of stock.
For more information, refer to Publication 550, Investment Income and Expenses.
References:
Can the cost averaging method be used for calculating the cost basis of
stocks, or is it limited only to mutual fund shares?
The average basis method may be used only for mutual fund shares that were purchased
at various times for various prices if the shares are left in the custody of a custodian
or agent in an account maintained for the acquisition or redemption of the shares.
References:
How do I compute the basis for stock I sold, when I received the stock over
several years through a dividend reinvestment plan?
The basis of the stock you sold is the cost of the shares plus any adjustments,
such as sales commissions. If you have not kept detailed records of your dividend
reinvestments, you may be able to reconstruct those records with the help of public
records from sources such as the media, your broker, or the company that issued the
dividends.
If you cannot specifically identify which shares were sold, you must use the first-in
first-out rule. This means that you deem that you sold the oldest shares first, then
the next oldest, then the next-to-the-next oldest, until you have accounted for the
number of shares in the sale. In order to establish the basis of these shares, you
need to have kept adequate documentation of all your purchases, including those that
were through the dividend reinvestment plan. You may not use an average cost basis.
Only mutual fund shares may have an average cost basis.
Refer to Publication 550, Investment Income and Expenses, and Publication 551, Basis of Assets.
References:
I know the basis of stock includes the cost of the original purchase, but
does it also include the value of stock acquired through a dividend reinvestment plan?
Unless you sell all of your shares at one time, your total basis, which includes
both your original purchase and any purchases through a dividend reinvestment, is
not the figure used to report the sale of shares. If you sell less than all of your
shares at one time, you need to have kept adequate documentation of all your purchases,
including those that were through the dividend reinvestment plan in order to establish
the basis of the shares sold. You may not use an average cost basis. Only mutual fund
shares may have an average cost basis.
When reporting the sale of shares of stocks, the basis for the calculation of gain
or loss is the actual cost (plus adjustments, such as sales commissions) of those
shares. If you cannot specifically identify which of your shares were sold, you must
use the first-in first-out rule.
For more information, refer to Publication 550, Investment Income and
Expenses, and Publication 551, Basis of Assets.
References:
Do I have to pay taxes again on the stock acquired through a dividend reinvestment
plan when I sell them?
After you report the dividends as income, you have basis in the shares acquired
through dividend reinvestment. When you report the sale of the shares, you will be
taxed only on the amount that the sales proceeds (minus commissions) exceed your cost
basis (in this case, the amount of the dividends reinvested).
References:
How do I determine the cost basis of stock bought through an employee stock
purchase plan (ESPP)?
Your starting basis is what you paid to buy the shares (option or exercise price).
This amount is increased by the compensation income amount, if any, you must declare
on your income tax return when the stock is sold. Sales commissions can also increase
the basis in your stock but will not affect the amount of compensation that must be
declared.
Under the employee stock purchase plan rules, if you had an option to purchase
the stock at a discount, the amount of compensation income realized when you sell
the stock depends on whether holding periods are met and whether you purchased the
stock at a discount.
To satisfy the holding period requirements, you must hold the stock for at least
one year after its transfer to you upon purchase and for two years after the option
is granted. If either of these holding periods are not met, then you have not met
the holding period requirements.
If the holding periods are met, the compensation income is the lesser of:
the amount by which the fair market value of the stock at the time you are granted
the option exceeds the option price, or
The amount by which the fair market value of the stock at the time you sell it
exceeds what you paid for it.
If they are not met, the compensation income is the amount by which the fair market
value of the stock, when vested, exceeds what you paid for it. The compensation income
should be included as wages on your Form W-2.
For more information, refer to Publication 525, Taxable and Non-Taxable
Income.
References:
Are incentive stock options subject to alternative minimum tax, and if so,
how do I determine the basis for the stock?
A taxpayer generally must include in alternative minimum taxable income the amount
by which the price paid for stock received pursuant to the exercise of an incentive
stock option is exceeded by the stock's fair market value at the time his rights the
stock are freely transferable or are not subject to a substantial risk of forfeiture.
Increase your alternative minimum tax basis by the amount of the adjustment. Your
basis for regular tax is not affected by the adjustment.
If a taxpayer acquires stock pursuant to the exercise of an incentive stock option
and disposes of the stock in a disqualifying disposition in the same taxable year,
the transaction is subject to regular tax, and the alternative minimum tax does not
apply. Refer to Internal Revenue Code 83, Internal Revenue Code 56(b)(3), and Internal
Revenue Code 422(c)(2). For more information, refer to
Instructions for Form 6251, Alternative Minimum Tax- Individuals.
References:
-
Instructions for Form 6251, Alternative Minimum
Tax- Individuals
- Internal Revenue Code 83
- Internal Revenue Code 56(b)(3)
- Internal Revenue Code 422(c)(2)
10.3 Capital Gains, Losses/Sale of Home: Mutual Funds (Costs, Distributions, etc.)
How do I find out my cost basis for mutual funds if I do not have all of
the records?
You need to reconstruct your records the best that you can. Contact your broker
or the mutual fund company for assistance.
Another source of information is your prior year tax returns. If your mutual fund
has been reinvesting dividends, those reinvested dividends (which have been used to
purchase additional shares in the fund) should have been reported as dividend income
on your tax return each year. To compute your total basis, add to the cost of the
original shares purchased the amount of all dividends automatically reinvested that
were previously reported as income on your prior tax returns and any shares you subsequently
purchased.
You can usually also add acquisition fees and load charges you've paid to your
basis in your mutual fund shares. If you sell your shares and the sales commission
is not subtracted from the sales proceeds on Form 1099-B, Broker and Barter Exchanges,
you can add the commission to the basis of the shares sold. If you receive a distribution
that is identified as a return of capital, you must reduce your total basis by that
amount.
Refer to Keeping Track of Your Basis in Publication 564, Mutual
Fund Distributions.
References:
If I do not have the records showing each dividend reinvestment, how do
I calculate the basis of my shares in a mutual fund that I acquired years ago?
Unless you have acquired shares through gifts or inheritances, your basis is what
the shares cost you. Your mutual fund company can often provide you with this information
upon request. Another source of information is your broker, if the fund was purchased
through a broker. You cannot calculate your basis in your mutual fund shares accurately
without this information. You can only claim the amount of basis that you can establish
and substantiate with records. You may lose a large part of your basis if you cannot
establish the amount of dividends that were reinvested. This is why keeping records
is so important.
Another source of information on reinvested dividends is your prior year tax returns.
If your mutual fund has been reinvesting dividends, those reinvested dividends should
have been reported as dividend income on your tax return each year.
For more information, refer to Publication 564, Mutual Fund Distributions.
References:
Do the dividends and/or capital gains I report affect my cost basis of the
individual mutual fund shares I own?
They would affect your total basis and total number of shares if they were reinvested
in the mutual fund. Add the reinvested dividends and capital gains that you have reported
as income on your tax return to your total basis. You will also own additional shares
in the fund because the dividends and capital gains have been used to purchase shares.
Keep good records. If you are going to be using an average basis method to determine
per-share basis on sales, be sure and keep records of all your mutual fund activity
until you no longer own any shares in that fund.
There is a worksheet to help you keep track of your number of shares and your basis
in Publication 564, Mutual Fund Distributions.
References:
How do return of principal payments affect my cost basis when I sell mutual
funds?
A return of principal (or return of capital) reduces your basis in your mutual
fund shares. Unlike a dividend or a capital gain distribution, a return of capital
is a return of part of your investment (cost). However, basis cannot be reduced below
zero. Once your basis reaches zero, any return of principal is capital gain and must
be reported on Form 1040 Schedule D (PDF), Capital
Gains and Losses.
References:
Do I have to specify to my broker which specific shares to sell in order
to use specific share identification to determine cost basis for mutual funds? Do
I need confirmation from my broker?
You are referring to meeting the requirement for "adequate identification." If
you can definitively identify the shares sold, you do not need to use the adequate
identification rules. You can use the adjusted basis of those particular shares to
figure your gain or loss.
The "adequate identification" rules allow you to control which shares are considered
sold, even though you may not control which shares are actually sold. If you specify
to your broker which shares you want sold prior to or at the time of the sale and
they confirm within a reasonable time in writing, then you are considered to be able
to "adequately identify" the shares sold, even if the broker actually sells different
shares. The confirmation by the mutual fund must be given to you within a reasonable
period of time and state that you instructed the broker to sell particular shares.
If you cannot identify the specific shares and you do not want to use an average
basis, then you must use the first-in first-out method (FIFO). These two methods are
both cost basis methods. You may not use either cost basis method if you have previously
used an average basis method for that mutual fund on a tax return. Refer to Publication 564, Mutual Fund Distributions.
References:
I have used the FIFO method to determine the cost basis for a sale of a
portion of a mutual fund holding. Must I continue to use this method for all future
sales of this fund?
No. If you subsequently sell some shares in that mutual fund and can identify the
shares sold, you can switch to the specific share identification method. Both of these
methods are cost basis methods.
To switch to an average basis method, you must have acquired the shares at various
times and prices, and left the shares on deposit in an account handled by a custodian
or agent who acquires or redeems those shares. Once you elect to use an average basis
method, you must continue to use it for all accounts in the same fund. However, you
may use a different method for shares in other funds, even those within the same family
of funds.
Before using an average basis, be sure your records reflect the disposition of
the shares that were reported using the cost basis method (FIFO).
References:
What affect does a stock split for a stock in my mutual fund have on my
cost basis when I am using an average basis method?
If a stock within your mutual fund splits, it has no affect on your basis because
the shares you own are shares in the mutual fund, not in the stock that split.
References:
How do I receive permission to change my cost basis calculation to adopt
an average basis method?
You do not need permission to elect an average basis method for a particular mutual
fund when you have used a cost basis previously to report the sale of shares in the
fund. If you meet the conditions to use an average basis, then you just need to clearly
indicate on the return for which you want the election to be in effect that you are
making the election. You also need to indicate which average basis method you are
using and that none of the shares are gift shares. If there are gift shares in the
account and the fair market value of the shares at the time of the gift was not more
than the donor's basis, you must include a statement that the basis for gift shares
when figuring the average basis is the fair market value at the time of the gift.
If you have already reported the sale using a cost basis, you cannot make this
election unless you can do it on an amended return before the due date of the tax
return being amended.
However, you do need the consent of the IRS to use a cost basis or to change your
average basis method once you have made this election to use an average basis method.
This would be considered a change in an accounting method. You would need to request
consent to change your method on Form 3115 (PDF), Application
for Change in Accounting Method.
For more information, refer to Publication 564, Mutual Fund Distributions, Publication 538, Accounting Periods and Methods,
Instructions for Form 3115, Application for Change in Accounting Method, Revenue Procedure
97-27, and Section 9.03 of Revenue Procedure 2003-1.
References:
10.4 Capital Gains, Losses/Sale of Home: Losses (Homes, Stocks, Other Property)
I own stock which became worthless last year. Can I take a bad debt deduction
on my tax return?
If you own securities and they become totally worthless, you can take a deduction
for a loss, but not for a bad debt.
The worthless securities are treated as though they were capital assets sold on
the last day of the tax year if they were capital assets in your hands. Report worthless
securities on line 1 or line 8 of Form 1040, Schedule D (PDF),
whichever applies. In columns (c) and (d), write "Worthless." For
additional information, refer to Publication 550, Investment Income and Expenses (Including
Capital Gains and Losses). For more information on bad debts, refer to Tax Topic 453, Bad
Debt Deduction.
References:
11.1 Sale or Trade of Business, Depreciation, Rentals: Depreciation & Recapture
I have a home office. Can I deduct expenses like mortgage, utilities,
etc., but not deduct depreciation so that when I sell this house, the basis
won't be affected?
If you have qualified business use of your home and enough gross income
from that business use to that entitle you to a depreciation deduction, you
are required to reduce your basis in the home by the amount of depreciation
allowed (deducted) or allowable (could have been deducted).
Whether you choose to deduct the depreciation on your current return(s)
will not matter. For tax purposes, you will still be treated as if you had
taken the allowable deduction, and your basis will have to be reduced. For
more information, refer to Publication 946, How to Depreciate Property, Publication 544, Sales and Other Dispositions of Assets, and Publication 587, Business Use of Your Home.
References:
11.4 Sale or Trade of Business, Depreciation, Rentals: Sales, Trades, Exchanges
We are selling rental property and have never claimed depreciation.
What do we do about this when we file our taxes?
When reporting the sale of or computing gain or loss on rental property,
you are required to make an adjustment to your basis for allowable depreciation
regardless of whether the deduction was taken. For more information refer
to Publication 544, Sale or Other Dispositions of Assets, and
the
Instructions for Form 4797, Sales of Business Property.
If you have unclaimed depreciation for two or more years, you must use Form 3115 (PDF), Application for Change in Accounting
Method, to claim the depreciation that should have been taken. The Form
3115 must be timely filed for the same tax year in which you sell the rental
property or an earlier tax year. If you placed in service the rental property
only one year prior to selling it, you may amend your income tax returns using Form 1040X (PDF), Amended U.S. Individual Income Tax
Return, to take deductions for the claimed depreciation.
References:
I just sold a commercial rental property my wife and I had purchased
thirty years ago (before she passed away) and I want to know how to figure
my cost basis. Is it the full appraised value at the time of her death, or
is it just half?
The answer depends on in which state you live in. Generally, the basis
of property you inherit is its Fair Market Value (FMV) at the date of the
decedent's death. If you live in a community property state (Arizona, California,
Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin), and
inherit your spouse's interest in a property held as community property, then
the basis for the entire property becomes the FMV at the date of your spouse's
death. This also assumes that at least half the value of the community property
interest is included in the deceased spouse's gross estate. In other states,
where the property is owned by you and your spouse as joint tenants, tenants
by the entireties, or tenants-in-common, the basis of the one-half that your
spouse owned would be increased to one-half of the FMV of the property at
the date of death. The basis in the one-half that you owned would remain at
the one-half of the pre-death adjusted basis. The new adjusted basis is, naturally,
subject to all future routine basis adjustments until the property is either
sold or otherwise disposed of.
References:
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