Basis and Other Investments

Keeping track of the basis of all your shares is essential for successful tax planning, particularly when you buy the stock of the same company at different times and at different prices. When you decide to sell some of the stock, being able to identify which shares to part with will permit you to control the tax consequences of the deal.

Basis is, in brief, your investment in the property - the amount you will compare to the sales proceeds to determine the amount of your profit or loss. The higher you can prove your basis to be, the lower the gain or larger the loss.

Consider this example. You bought 100 shares of ABC stock in January 1995 for $2,400 (including commissions), giving you a basis of $24 per share. In January 1996, you purchased 100 more shares, this time for $2,800. Your basis in each share is $28. In January 1997, you purchased another 100 shares for $3,000, giving each share a basis of $30.

When the stock hit $40 a share in April 2004, you sell 100 shares. If you simply tell your broker to sell 100 shares, the IRS FIFO rule - first in, first out - comes into play. It is assumed that the first shares you purchased - the 1995 group with the $24 basis - are the first ones sold. That would create a taxable profit of $16 a share or $1,600. But if you directed your broker to sell the shares purchased in 1997, with a $30 basis, the taxable profit will be $10 a share, or just $1,000.

In either case you'll get $4,000 from the sale of the stock and because you've owned all the shares more than 12 months, your profit will get long-term gain treatment. But, your tax bill would be significantly different: $240 versus $150, assuming your tax bracket is above 15 percent. In most cases, you'll probably want to structure the sale to produce the smallest taxable profit. It's possible, though, that circumstances will warrant selling the shares with the lowest basis first - if you have sufficient losses from other sales to offset the larger gain, for example. Your gains are taxed at:

• Your marginal tax rate (for example 25 percent) if you held the securities for 12 months or less.
• Fifteen percent if you held the securities more than 12 months and the rate that would apply to the gain is more than 15 percent.
• Five percent if you held the securities more than 12 months to the extent the gain would be taxed at a 10- or 15-percent rate.

If you have a net loss, up to $3,000 of the loss can be used to reduce your other income. The part of a new (should be net) loss over $3,000 is carried to 2005.

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