Table of Contents:
COST BASE OF MULTIPLE PURCHASES
Investors who have been accumulating shares through multiple purchases must determine their cost base at the time of sale through one of the following methods:
• FIFO (first in, first out)
• Share identification
• Average cost
If the investor does not identify which shares are being sold at the time of sale, the IRS will assume that the first shares that were purchased are the first shares that are sold under the FIFO method. In many cases, this will result in the largest capital gain and, as a result, the investor will have the largest tax liability under this method.
An investor may, at the time of the sale, specify which shares are being sold. By keeping a record of the purchase prices and the dates that the shares were purchased, the investor may elect to sell the shares that create the most favorable tax consequences.
An investor may decide to sell shares based on the average cost. The average cost can be determined by using the following formula:
Once an investor has elected to use the average cost method to calculate gains and losses, the method used to calculate future gains and losses may not be changed without 1RS approval.
DEDUCTING CAPITAL LOSSES
An investor may use capital losses to offset capital gains dollar for dollar in the year in which they are realized. A net capital loss may be used to reduce the investor's taxable ordinary income by up to $3,000 in the year in which it is realized. Any net capital losses that exceed $3,000 may be carried forward into future years and may be deducted at a rate of $3,000 from ordinary income every year until the loss is used up. If the investor has a capital gain in subsequent years, the investor may use the entire amount of the net capital loss remaining to offset the gain up to the amount of the gain.