How to Calculate an Asset's Tax Basis

Before beginning Schedule D, you need to know some basic information about each capital gain or capital loss you are claiming. This will make the completion of Schedule D much easier.

This page:

  • Explains the tax basis of an asset or investment

  • Lists four methods of selling investment shares

  • Provides examples of difficult tax rate computations

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The tax basis of assets or investments

To determine whether or not the sale of your investment or asset resulted in a capital gain or a capital loss, you first need to figure its tax basis.

The tax basis is dependent upon several factors - how you acquired the investment or asset, its fair market value or cost, and the amount it has depreciated or appreciated.

Most of the time determining the tax basis is simple, especially if you made the original purchase.

However, things get a little more complicated if you're selling something you've inherited or received as a gift. Or if you're selling a house on which you've made improvements or a collectible that has depreciated in value over time.

In these instances, the tax basis is calculated differently.


Here is a guide to help you determine the tax basis of an asset or investment:

Methods of selling investments

Once you've figured out the tax basis of an asset, the capital gain or loss is pretty straight-forward. However, the process can become more complicated when you are selling investments.

For example, if five years ago you bought 100 shares of stock all at once, and you sold them this past year for a capital gain, simply enter the price you purchased the shares for originally as the tax basis, and the amount you sold them for in the long term gains section of your Schedule D.

Sidebar
Ahh, Schedule D. One of those "fun forms". With multiple selling points and different types of assets, filling our Schedule D (and Schedule D-1) can get complicated. But if you are prepared, and file electronically, the process becomes much simpler.

But back to the theory.

If throughout the years you periodically bought more of a certain company's stock, and then sold a portion of the shares, figuring the tax basis becomes trickier:

Probably, each time you bought more shares, the price per share was not the same. Selling a number of shares with varying costs adds to the confusion.

In these instances, you must designate which shares you're selling and indicate the amount you paid for each share. The IRS recognizes four different methods of selling shares of varying prices.

How shares are sold. (Or how they should be)

The easiest is the First-in First-out method. This is also the default method, used if you fail to indicate an alternative one. As the title suggests, under this method, the shares you buy first are sold first.

Note: you need to tell your broker which method you want to use while you are selling the shares. Otherwise, it is likely the first method was used, which means you can not figure your capital gains and losses using a different method.


The remaining three methods are less common, but can make more financial sense in some situations.

For instance, the Specific ID Method, which allows you to pick and choose the shares you want to sell, is quite helpful if the most recently bought shares are the ones you want to sell.

The Single-Category Average Basis Method figures the average pre-sale basis for all the shares and uses this average to figure your capital gain or loss on the amount of shares you are selling.

Finally, the Double-Category Average Basis Method figures two average pre-sale bases, one for short term shares and one for long term shares. You then choose how many shares from either category you would like to sell at the average basis.

If you use any of the last three methods, indicate this on your Schedule D.


Next: fun times in April means filling out Schedule D.

Related IRS publications

You can get more information about capital gains tax rates directly from the IRS, in the form of IRS Publication 550.

If you file a paper return, you will also have to fill out Schedule D and possibly Schedule D-1. If you file electronically, all this will be taken care of for you electronically.

Note: you will need an Adobe Acrobat Reader to view these publications, which you can get here. (But you probably already have it.)