Understanding Cost Basis May Be Worth It

(Originally Appeared in the December 27, 2011 edition of the Century City News)

Cost basis. What is it? You may have heard this term used many times, but if you are an investor, it is important to know what it means.  

Cost basis is a means of measuring the value of a security or other assets for tax purposes. When you sell a security, you compare its selling price with your cost basis to determine whether you’ve realized a taxable gain or a tax-deductible loss. At times, determining cost basis is as simple as locating your original cost for a security. In other cases, depending on how you acquired a security and what happened to it during the time you held it, determining cost basis could be more complicated.  

Cost basis of securities you purchase.  When you purchase a security, your cost basis is typically your total purchase cost — the price you paid for the security plus any commission and other costs associated with the purchase. For example, if you buy 100 shares of stock for $10 per share and your brokerage firm charges you $75 for commission and transaction fees, your cost basis would be $1,075 (100 shares x $10 plus $75) or $10.75 per share.

Cost basis of securities you receive as gifts. When you receive securities as a gift, your cost basis is generally based on the donor’s cost basis at the time he or she made the gift. If you receive a gift of securities that has appreciated in value since the donor purchased them, you assume the donor’s cost basis for the securities. Let’s say your father owns 100 shares of stock with a total cost basis of $1,000, or $10 per share.  He gives you the securities when the price for the securities is $25 per share. Even though the securities have appreciated in value, your cost basis would be the same as your father’s, $10 per share. On the other hand, suppose that the stock your father gives you has depreciated in value to $5 per share on the day he gives you the securities. Then determining your cost basis would be a little more difficult, because it would depend on what happens to the stock’s price during the time you hold the stock.  

Calculating your cost basis may sometimes feel confusing, but understanding the rules may go a long way toward helping you achieve your financial goals.  

This article was written by Wells Fargo Advisors and provided courtesy of Alan Cusick, Senior Vice President - Investments and Fundamental Choice Portfolio Manager in Century City.