There are many times when you cannot use cost as a basis. In these cases, the fair market value or the adjusted basis of the property may be used. Fair market value (FMV) and adjusted basis were discussed earlier.
Property Received for Services
Generally, if you receive property for your services, you must include its FMV in your income in the year you receive the property. The amount you include in income becomes your basis. If the services were performed for a price agreed on beforehand, it will be accepted as the FMV of the property if there is no evidence to the contrary.
If you receive property for your services and the property is subject to certain restrictions, your basis in the property is its FMV when it becomes substantially vested. However, this rule does not apply if you make an election to include in income the FMV of the property at the time it is transferred to you, less any amount you paid for it. Property becomes substantially vested when your rights in the property or the rights of any person to whom you transfer the property are not subject to a substantial risk of forfeiture. For more information, see Restricted Property in Publication 525.
A bargain purchase is a purchase of an item for less than its FMV. If, as compensation for services, you buy goods or other property at less than FMV, include the difference between the purchase price and the propertys FMV in your income. Your basis in the property is its FMV (your purchase price plus the amount you include in income).
If the difference between your purchase price and the FMV is a qualified employee discount, do not include the difference in income. However, your basis in the property is still its FMV. See Employee Discounts in Publication 15-B.
A taxable exchange is one in which the gain is taxable or the loss is deductible. A taxable gain or deductible loss also is known as a recognized gain or loss. If you receive property in exchange for other property in a taxable exchange, the basis of the property you receive is usually its FMV at the time of the exchange.
If you receive property as a result of an involuntary conversion, such as a casualty, theft, or condemnation, you can figure the basis of the replacement property using the basis of the old property.
Similar or related property.
If you receive property that is similar or related in service or use to the old property, the replacement propertys basis is the same as the old propertys basis on the date of the conversion, with the following adjustments.
- Decrease the basis by the following items.
- Any loss you recognize on the conversion.
- Any money you receive that you do not spend on similar property.
- Increase the basis by the following items.
- Any gain you recognize on the conversion.
- Any cost of acquiring the replacement property.
Money or property not similar or related.
If you receive money or property that is not similar or related in service or use to the converted property and you buy replacement property that is similar or related in service or use to the converted property, the basis of the replacement property is its cost decreased by the gain not recognized on the conversion.
The state condemned your property. The adjusted basis of the property was $26,000, and the state paid you $31,000 for it. You realized a gain of $5,000 ($31,000 − $26,000). You bought replacement property similar in use to the converted property for $29,000. You recognize a gain of $2,000 ($31,000 − $29,000), the unspent part of the payment from the state. Your gain not recognized is $3,000, the difference between the $5,000 realized gain and the $2,000 recognized gain. You figure the basis of the replacement property as follows:
|Cost of replacement property
|Minus: Gain not recognized
|Basis of replacement property
Allocating the basis.
If you buy more than one piece of replacement property, allocate your basis among the properties based on their respective costs.
A nontaxable exchange is an exchange in which you are not taxed on any gain and you cannot deduct any loss. If you receive property in a nontaxable exchange, its basis is generally the same as the basis of the property you transferred. See Nontaxable Trades in chapter 15.
The exchange of property for the same kind of property is the most common type of nontaxable exchange. To be a like-kind exchange, the property traded and the property received must be both of the following.
- Qualifying property.
- Like property.
The basis of the property you receive is generally the same as the basis of the property you gave up. If you trade property in a like-kind exchange and also pay money, the basis of the property you received is the basis of the property you gave up increased by the money you paid.
In a like-kind exchange, you must hold for investment or for productive use in your trade or business both the property you give up and the property you receive.
There must be an exchange of like property. The exchange of real estate for real estate or personal property for similar personal property is an exchange of like property.
You trade in an old truck used in your business, which has an adjusted basis of $1,700, for a new one costing $6,800. The dealer allows you $2,000 on the old truck, and you pay $4,800. This is a like-kind exchange. The basis of the new truck is $6,500 (the adjusted basis of the old one, $1,700, plus the amount you paid, $4,800).
If you sell your old truck to a third party instead for $2,000 and then buy the new one from the dealer, you have a taxable gain of $300 on the sale ($2,000 sale price minus $1,700 basis). The basis of the new truck is the price you pay the dealer for it.
Partially nontaxable exchange.
A partially nontaxable exchange is an exchange in which you receive unlike property or money in addition to like property. The basis of the property you receive is the basis of the property you gave up, with the following adjustments.
- Decrease the basis by the following amounts.
- Any money you receive in the exchange.
- Any loss you recognize on the exchange.
- Increase the basis by the following amounts.
- Additional costs you incur for the exchange.
- Any gain you recognize on the exchange.
Allocate the basis among the properties, other than money, you received in the exchange. In making this allocation, the basis of the unlike property is its FMV on the date of the exchange. The remainder is the basis of the like property.
See Like-Kind Exchanges in chapter 1 of Publication 544 for more information.
Property Transferred From a Spouse
The basis of property your spouse transferred to you or transferred in trust for your benefit is the same as your spouses adjusted basis. The same rule applies to a transfer by your former spouse that is incident to divorce. However, adjust your basis for any gain recognized by the transferor on property transferred in trust. This rule applies only to a transfer of property in trust in which the liabilities assumed, plus the liabilities to which the property is subject, are more than the adjusted basis of the property transferred.
If the property transferred to you is a series E, series EE, or series I U.S. savings bond, the transferor must include in income the interest accrued to the date of transfer. Your basis in the bond immediately after the transfer is equal to the transferors basis plus the interest income includible in his or her income. For more information about these bonds, see chapter 8.
The transferor must give you, at the time of the transfer, the records needed to determine the adjusted basis and holding period of the property as of the date of the transfer.
For more information about the transfer of property from a spouse, see chapter 15.
Property Received as a Gift
To figure the basis of property you receive as a gift, you must know its adjusted basis to the donor just before it was given to you. You also must know its FMV at the time it was given to you and any gift tax paid on it.
FMV less than donors adjusted basis.
If the FMV of the property at the time of the gift is less than the donors adjusted basis, your basis depends on whether you have a gain or a loss when you dispose of the property. Your basis for figuring gain is the same as the donors adjusted basis plus or minus any required adjustment to basis while you held the property. Your basis for figuring loss is its FMV when you received the gift plus or minus any required adjustment to basis while you held the property. See Adjusted Basis, earlier.
You received an acre of land as a gift. At the time of the gift, the land had an FMV of $8,000. The donors adjusted basis was $10,000. After you received the property, no events occurred to increase or decrease your basis in it. If you later sell the property for $12,000, you will have a $2,000 gain. You must use the donors adjusted basis at the time of the gift ($10,000) as your basis to figure gain. If you sell the property for $7,000, you will have a $1,000 loss because you must use the FMV at the time of the gift ($8,000) as your basis to figure loss.
If the sales price is between $8,000 and $10,000, you have neither gain nor loss.
If you hold the gift as business property, your basis for figuring any depreciation, depletion, or amortization deduction is the same as the donors adjusted basis plus or minus any required adjustments to basis while you hold the property.
FMV equal to or greater than donors adjusted basis.
If the FMV of the property is equal to or greater than the donors adjusted basis, your basis is the donors adjusted basis at the time you received the gift. Increase your basis by all or part of any gift tax paid, depending on the date of the gift.
Also, for figuring gain or loss from a sale or other disposition or for figuring depreciation, depletion, or amortization deductions on business property, you must increase or decrease your basis (the donors adjusted basis) by any required adjustments to basis while you held the property. See Adjusted Basis, earlier.
Gift received before 1977.
If you received a gift before 1977, increase your basis in the gift (the donors adjusted basis) by any gift tax paid on it. However, do not increase your basis above the FMV of the gift at the time it was given to you.
Gift received after 1976.
If you received a gift after 1976, increase your basis in the gift (the donors adjusted basis) by the part of any gift tax that is due to the net increase in value of the gift. Figure the increase by multiplying the gift tax paid by a fraction. The numerator of the fraction is the net increase in value of the gift and the denominator is the amount of the gift.
The net increase in value of the gift is the FMV of the gift minus the donors adjusted basis. The amount of the gift is its value for gift tax purposes after reduction by any annual exclusion and marital or charitable deduction that applies to the gift. For information on the gift tax, see Publication 950, Introduction to Estate and Gift Taxes.
In 2000, you received a gift of property from your mother that had an FMV of $50,000. Her adjusted basis was $20,000. The amount of the gift for gift tax purposes was $40,000 ($50,000 minus the $10,000 annual exclusion). She paid a gift tax of $9,000 on the property. Your basis is $26,750, figured as follows:
|Fair market value
|Minus: Adjusted basis
|Net increase in value
|Gift tax paid
|Multiplied by ($30,000 ÷ $40,000)
|Gift tax due to net increase in value
|Adjusted basis of property to your mother
|Your basis in the property
Your basis in property you inherit from a decedent is generally one of the following.
- The FMV of the property at the date of the individuals death.
- The FMV on the alternate valuation date if the personal representative for the estate chooses to use alternate valuation.
- The value under the special-use valuation method for real property used in farming or another closely held business, if chosen for estate tax purposes.
- The decedents adjusted basis in land to the extent of the value excluded from the decedents taxable estate as a qualified conservation easement.
If a federal estate tax return does not have to be filed, your basis in the inherited property is its appraised value at the date of death for state inheritance or transmission taxes.
For more information about the basis of inherited property, see Inherited Property in Publication 551.
Property Changed to Business or Rental Use
When you hold property for personal use and change it to business use or use it to produce rent, you must figure its basis for depreciation. An example of changing property held for personal use to business use would be renting out your former personal residence.
Basis for depreciation.
The basis for depreciation is the lesser of the following amounts.
- The FMV of the property on the date of the change.
- Your adjusted basis on the date of the change.
Several years ago, you paid $160,000 to have your house built on a lot that cost $25,000. Before changing the property to rental use last year, you paid $20,000 for permanent improvements to the house and claimed a $2,000 casualty loss deduction for damage to the house. Because land is not depreciable, you can only include the cost of the house when figuring the basis for depreciation.
Your adjusted basis in the house when you changed its use was $178,000 ($160,000 + $20,000 − $2,000). On the same date, your property had an FMV of $180,000, of which $15,000 was for the land and $165,000 was for the house. The basis for figuring depreciation on the house is its FMV on the date of the change ($165,000) because it is less than your adjusted basis ($178,000).
Sale of property.
If you later sell or dispose of the property, the basis you use will depend on whether you are figuring gain or loss.
The basis for figuring a gain is your adjusted basis when you sell the property.
Assume the same facts as the previous example except that you sell the property at a gain after being allowed depreciation deductions of $37,500. The basis for figuring gain is $165,500 ($178,000 + $25,000 (land) − $37,500).
Figure the basis for a loss starting with the smaller of your adjusted basis or the FMV of the property at the time of the change to business or rental use. Then adjust this amount for the period after the change in the propertys use, as discussed earlier under Adjusted Basis , to arrive at a basis for loss.
Assume the same facts as in the previous example, except that you sell the property at a loss after being allowed depreciation deductions of $37,500. In this case, you would start with the FMV on the date of the change to rental use ($180,000), because it is less than the adjusted basis of $203,000 ($178,000 + $25,000) on that date. Reduce that amount ($180,000) by the depreciation deductions to arrive at a basis for loss of $142,500 ($180,000 − $37,500).
Stocks and Bonds
The basis of stocks or bonds you buy generally is the purchase price plus any costs of purchase, such as commissions and recording or transfer fees. If you get stocks or bonds other than by purchase, your basis is usually determined by the FMV or the previous owners adjusted basis, as discussed earlier.
You must adjust the basis of stocks for certain events that occur after purchase. For example, if you receive additional stock from nontaxable stock dividends or stock splits, reduce the basis of your original stock. Also reduce your basis when you receive nontaxable distributions. They are a return of capital.
In 1998 you bought 100 shares of XYZ stock for $1,000 or $10 a share. In 1999 you bought 100 shares of XYZ stock for $1,600 or $16 a share. In 2000 XYZ declared a 2-for-1 stock split. You now have 200 shares of stock with a basis of $5 a share and 200 shares with a basis of $8 a share.
There are other ways to figure the basis of stocks or bonds depending on how you acquired them. For detailed information, see Publication 550.
Identifying stocks or bonds sold.
If you can adequately identify the shares of stock or the bonds you sold, their basis is the cost or other basis of the particular shares of stocks or bonds. If you buy and sell securities at various times in varying quantities and you cannot adequately identify the shares you sell, the basis of the securities you sell is the basis of the securities you acquired first. For more information about identifying securities you sell, see Stocks and Bonds under Basis of Investment Property in chapter 4 of Publication 550.
Mutual fund shares.
If you sell mutual funds you acquired at various times and prices, you may be able to use an average basis. For more information, see Average Basis in Publication 564.
If you buy a taxable bond at a premium and choose to amortize the premium, reduce the basis of the bond by the amortized premium you deduct each year. See Bond Premium Amortization in chapter 3 of Publication 550 for more information. Although you cannot deduct the premium on a tax-exempt bond, you must amortize the premium each year and reduce your basis in the bond by the amortized amount.
Original issue discount (OID) on debt instruments.
You must increase your basis in an OID debt instrument by the OID you include in income for that instrument. See Original Issue Discount in chapter 8.
OID on tax-exempt bonds is generally not taxable. However, there are special rules for figuring the basis of these bonds issued after September 3, 1982, and acquired after March 1, 1984. See chapter 4 of Publication 550.
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