Tax Tips

It's important to keep track of the basis of all your stock shares, especially 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 implications of the deal.

Definition of Basis

Basis is your investment in the property — the amount you'll compare to the sales proceeds to determine the amount of your profit or loss. In most cases, the basis is cost, including commissions. But special rules (not discussed here) apply to property you inherit or acquire by gift and to shares in a mutual fund. Special rules also apply to specific types of investments. The higher you can prove your basis to be, the lower the gain or larger the loss.

For example: You bought 100 shares of ABC stock in January 2004 for $2,400 (including commissions), giving you a basis of $24 per share. In January 2005, you purchased 100 more shares, this time for $2,800. Your basis in each share is $28. In January 2006, you purchased another 100 shares for $3,000, giving each share a basis of $30.

When the stock hit $40 a share in April 2007, you sold 100 shares. If you simply told your broker to sell 100 shares, it's assumed that the first shares you purchased 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 2006, with a $30 basis, the taxable profit would be $10 a share, or just $1,000. Important: To be eligible to avoid first-in first-out treatment on stock certificates held by your broker, you must tell your broker the particular stock to be sold at the time of the sale, and you must receive a written confirmation of this from your broker within a reasonable time.

In either case you would get $4,000 from the sale of the stock. Because you've owned all the shares more than 12 months, your profit would get long-term gain treatment. But your tax bill would be significantly different: $240 versus $150, assuming your tax bracket is greater than 15%. In most cases, you'll probably want to structure the sale to produce the smallest taxable profit. It's possible, though, 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.

Tax on Net Gains

This is how your net gains are taxed:

• Your marginal tax rate (for example, 25%) on securities held for 12 months or less.
  
• Fifteen percent on securities you held for more than 12 months and the rate that would apply to the gain is more than 15%.
  
• Five percent on securities held more than 12 months to the extent the gain would be taxed at a 10% or 15% rate. For gains recognized during 2008, the 5% rate is 0%.
  

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 net loss more than $3,000 is carried to the next year.