Cost Basis

What does cost basis mean? During tax time, this is one area where taxpayers make mistakes. Some of these mistakes will even garner a visit from the IRS. If you invest in anything, you need to know how to accurately calculate your cost basis. You also need to keep accurate records to prove how you calculated your cost basis.

The cost basis is what you paid for your investment, plus any commissions and any other purchase costs. If your investment is subject to depreciation (i.e. rental real estate), this would reduce your cost basis. Your taxable gain or loss on the sale of the property will be calculated as your selling proceeds selling costs less your cost basis.

Especially troublesome is when an investor participates in an employer sponsored stock purchase plan or decides to put a monthly amount into a mutual fund. Ten years later when they need the money, they sell their shares. The taxpayer takes their tax return in to be prepared and the Tax Preparer will then want to know what the cost basis is so the gain or loss on the sale of the investment can be determined.

Let's say you have an automatic deduction taken from your paycheck each pay period and you are investing in your employee stock purchase plan. Each deduction from your paycheck will result in a separate purchase of shares of stock. It is your responsibility to keep accurate detailed records for each purchase. You will need this information when you sell the stock. Don't assume the company will keep these records for you. It isn't their responsibility to do so. It is in your best interest to keep records of each purchase so that you don't pay too much tax when you sell the shares.

If you have to reconstruct 500 tiny purchases over a period of 10 years....well, it won't be fun. Remember to keep all records of purchases and sales of any property. It will serve you well, keep you from paying too much tax, and protect you in case of an audit.