Basis Basics

Sometimes computing the gain or loss on the sale of stock and other securities can be confusing. For purposes of this article, we will look at the basis rules involving stock purchases, stock splits, stock dividends, stock received as a gift and stock that has been inherited.

The basis of a stock sold by its original purchaser equals the amount paid for the stock plus any commissions, transfer fees or other costs. If the stock has been purchased in multiple lots at different prices, basis is assigned to the shares sold by either the first in first out (FIFO) method or by specifically identifying the shares sold.

A "stock dividend" or stock split involves a shareholder receiving additional shares in a company for each share they own. Generally, stock dividends and splits are not taxable events and basis is simply reallocated among all the current shares. If cash is received in lieu of a fractional share in a stock dividend, the shareholder is taxed as if he received a fractional share and then redeemed it from the corporation.

Shares are also frequently acquired through reinvestment programs. With mutual funds the shareholder acquires additional basis for each reinvested dividend. In addition, the shareholder is permitted to use an average cost basis as well as the other two methods. Dividend reinvestment programs involving other than mutual fund companies depend on the reinvestment plan in place. Some plans provide that cash dividends are paid to an independent agent who purchases the corporation's stock on the open market. With this type of plan, the amount of the cash dividend is included into the shareholder's income and the shareholder acquires an equal amount of basis.

The other typical reinvestment plan involves corporations who manage the plan themselves and issue new shares (typically at a discount) to reinvesting shareholders. In this case, the shareholders basis in the reinvested shares is equal to the fair market value of the shares at the time the dividend is paid.

To calculate the basis of stock acquired as a gift, you must know the fair market value at the time of the gift, the donor's basis in the stock and the amount of any gift tax paid. If there is a gain, the donee's basis is generally the same as the donor's basis. If there is a loss, the basis is equal to the lower of the fair market value at the time of the gift or the donor's basis.

In general, property acquired by inheritance in 2001 has a basis equal to the fair market value of the property at the date of death. If the alternate valuation election is made then the stock has a basis equal to the fair market value six months after the date of death. If the surviving joint tenant is the spouse, the basis is equal to one-half of the property at fair market value plus one-half of the cost basis.

Of course, this is just a general discussion. For specific advice regarding your particular situation, contact us or your tax professional who can help you determine and track the cost basis for your investments.