by Michael Wiener, E.A.
The tax consequences of many personal and business transactions attributable to the taxpayer are determined in whole or in part by the taxpayer’s basis in the property. So then, what is basis?
A taxpayer’s basis in property represents the capital investment that has not been recovered through some provision in the tax code. The (tax) basis is important to property transactions determining gain or loss when the property sold or exchanged, the investment that may be recovered thru deductions, limitations for certain loss deductions, and determines the basis in the hands of a subsequent taxpayer in a non-taxable exchange.
This capital investment is further defined as being either unadjusted basis or adjusted basis. The unadjusted basis in property is the cost of the property at the time of acquisition by the taxpayer and includes cash transferred, mortgages assumed, costs to complete the transaction and costs incurred in acquiring or producing the property.
The adjusted basis then is the original basis in the property increased or decreased to reflect capital expenditures, recovery costs (i.e. depreciation), and other gains and losses recognized while the property is being held.
To illustrate. In 2014 Joe purchases an automobile for $10,000. Since he uses this in his business, in 2015 and 2016 he depreciates (expenses) the car $2,000 per year. At the end of 2016, Joe’s unadjusted basis is $10,000 and his adjusted basis is $6,000 ($10,000 less $4,000.)
The unadjusted basis or original basis in certain circumstances will be determined by Fair Market Value or transferred value. For example, the basis of inherited property is largely determined by the fair market value and the date of passing of the decedent.
SO WHY IS ADJUSTED BASIS IMPORTANT?
The adjusted basis of a taxpayer’s property is the largest single factor in the computation of gain or loss when the property is disposed of. It is also critical in determining the recognition of losses. This applies to real property, investments, personal and business property. Being aware of how and what factors affect the basis will in large part determine how much tax you will pay.
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