Definition
Cost Basis
The original value of an asset for tax purposes, including purchase price plus commissions, fees, and reinvested dividends. Used to calculate capital gain or loss when sold. Can be adjusted upward (a wash sale's disallowed loss is added to the basis of the replacement shares) or downward (return of capital distributions), and inherited assets generally take a basis equal to fair market value at the date of death, or at the alternate valuation date if the estate elects it (a step-up, or a step-down if the value fell), except income in respect of a decedent such as a traditional IRA or 401(k), which gets no step-up.
An investor purchases 100 shares at $50/share ($5,000) with a $10 commission, then reinvests $200 in dividends to buy 4 more shares. Cost basis = $5,210 ($5,000 + $10 + $200). If sold at $60/share for total proceeds of $6,240 minus $10 commission = $6,230, the taxable capital gain = $6,230 - $5,210 = $1,020.
Students often forget to include commissions and fees in cost basis, and including them raises basis, which reduces taxable gain. They also miss that reinvested dividends increase basis (you already paid tax on those dividends, so they shouldn't be taxed again as capital gains). Another common error is not adjusting basis for wash sales or step-up at death.
How is Cost Basis tested on the exam?
- Calculating cost basis including purchase price, commissions, and reinvested dividends
- Determining capital gain or loss using adjusted cost basis after a sale
- Understanding how wash sales adjust cost basis upward (disallowing loss, adding to replacement shares)
- Applying step-up basis at death (inherited assets reset to fair market value)
- Recognizing that return of capital distributions reduce cost basis (not taxed, but lower basis)
Regulatory limits
Regulatory Limits
| Description | Limit | Notes |
|---|---|---|
| Wash sale period | 30 days before or after sale (61-day total window) | Substantially identical securities purchased during this period trigger wash sale |
| Step-up basis at death | Fair market value on date of death | Inherited assets generally take a basis equal to FMV (or the alternate valuation date value), which erases unrealized gain or loss; income in respect of a decedent, such as a traditional IRA, gets no step-up |
| Gift basis carryover | Donor's original cost basis | Gifted assets generally keep the donor's basis (no step-up), and the holding period carries over; if the value at the gift was below the donor's basis, that lower value is the basis for figuring a loss |
Think of cost basis as the receipt for your investment: Purchase price + what you paid to buy it (commissions/fees) + dividends you already paid tax on (reinvested). Step-up = Step up to heaven (inherited assets get new basis at FMV). Wash sale = Wash away the loss (but it gets added to the new shares).
Practice questions
Test your understanding with the questions below. Pick an answer to reveal the explanation.
Robert, age 72, is reviewing his investment portfolio with his adviser. He purchased 200 shares of XYZ stock in 2010 for $40/share plus $25 commission. Over the years, he reinvested $1,500 in dividends to purchase additional shares. He now wants to sell all shares at the current market price of $75/share. His adviser charges a $30 commission on the sale. What is the most accurate statement about calculating the capital gain on this sale?
C is correct. Cost basis includes the original purchase price ($8,000), purchase commission ($25), and reinvested dividends ($1,500) for a total basis of $9,525. Reinvested dividends were already taxed as income when received, so they increase basis to avoid double taxation. The sale commission ($30) reduces net proceeds (not basis). Calculation: Proceeds = (shares × $75) - $30 commission. Gain = Net Proceeds - $9,525 basis.
A is incorrect because it omits both the purchase commission and reinvested dividends. B is incorrect because reinvested dividends are not taxed again; they increase cost basis since tax was already paid when reinvested. D is incorrect because it omits the reinvested dividends entirely; it also misstates the basis by treating the purchase commission as a reduction of proceeds instead of an addition to basis.
The Series 65 exam tests your ability to properly calculate cost basis for tax reporting. Understanding that commissions, fees, and reinvested dividends all affect basis is critical for accurate tax planning and client communication about taxable gains.
Which of the following are included when calculating the cost basis of a stock purchase?
C is correct. Cost basis includes the purchase price, purchase commission (and any other acquisition fees), and reinvested dividends. Reinvested dividends increase basis because tax was already paid on that income when received, so it should not be taxed again as capital gain. This prevents double taxation.
A is incorrect because it omits commissions and reinvested dividends. B is partially correct but omits reinvested dividends. D is incorrect because the sale commission reduces proceeds (not basis); only the purchase commission is added to basis.
The Series 65 exam frequently tests knowledge of what components are included in cost basis. This is essential for calculating accurate capital gains tax liability and making informed tax-loss harvesting or portfolio rebalancing decisions.
An investor purchased 500 shares of ABC stock at $30/share with a $50 commission. Over 5 years, she reinvested $2,000 in dividends to acquire additional shares. She now sells her entire position (the original 500 shares plus the shares bought with the reinvested dividends) for gross proceeds of $22,500, paying a $75 sale commission. What is her capital gain on this sale?
A is correct. Step-by-step calculation:
Cost Basis (entire position):
- Purchase: 500 shares × $30 = $15,000
- Purchase commission: $50
- Reinvested dividends: $2,000 (basis of the additional shares)
- Total cost basis = $17,050
Sale Proceeds (Net):
- Gross proceeds (entire position): $22,500
- Sale commission: $75
- Net proceeds = $22,425
Capital Gain = $22,425 - $17,050 = $5,375
Note: The $2,000 of reinvested dividends was already taxed as dividend income, and it is the cost basis of the additional shares it bought. It counts here because those shares are part of the sale; had she sold only the original 500 shares, her basis would have been $15,050.
B ($5,425) omits the $50 purchase commission from basis ($22,425 - $17,000). C ($7,425) omits both the reinvested dividends and the purchase commission from basis ($22,425 - $15,000). D ($7,500) omits both commissions and the reinvested dividends ($22,500 - $15,000).
Capital gain calculation questions test your understanding of how to properly adjust both basis (purchase commission + reinvested dividends) and proceeds (reduced by sale commission). These calculations directly impact client tax liability and investment decisions.
All of the following statements about cost basis are accurate except
C is correct (the exception). When a security is inherited, the cost basis is not the deceased's original purchase price. Instead, it receives a "step-up in basis" to the fair market value on the date of death (or alternate valuation date). This wipes out any gain (or loss) that built up before death, which usually benefits heirs.
A is accurate: cost basis includes purchase price plus acquisition costs (commissions, fees). B is accurate: reinvested dividends were already taxed as income, so they increase basis to avoid being taxed again as capital gains. D is accurate: when a wash sale occurs, the disallowed loss is added to the cost basis of the replacement shares, which defers (but doesn't eliminate) the tax benefit.
The Series 65 exam tests your understanding of basis adjustments, particularly the step-up at death rule. Understanding this is critical for estate planning discussions and explaining tax implications of inherited securities to clients.
A client purchased 1,000 shares of DEF stock at $25/share with a $100 commission in January. On June 20, she sold all shares at $20/share for a $5,200 loss (after $100 commission). On July 10, she repurchased 1,000 shares at $22/share with a $100 commission. Which of the following statements about this situation are accurate?
1. The June sale resulted in a deductible capital loss of $5,200
2. The transaction triggered a wash sale because substantially identical securities were purchased within 30 days
3. The cost basis of the July purchase is $22,100
4. The disallowed loss from the wash sale is added to the cost basis of the replacement shares
B is correct. Only statements 2 and 4 are accurate.
Statement 1 is false: The $5,200 loss is not currently deductible because a wash sale occurred. Substantially identical shares were repurchased within 30 days of the sale (June 20 sale, July 10 repurchase, 20 days later), so the loss is disallowed.
Statement 2 is true: This is a wash sale. The same stock was sold at a loss and repurchased 20 days later, inside the window that runs from 30 days before to 30 days after the sale.
Statement 3 is false: The cost basis is not simply $22,100 ($22,000 + $100 commission). Because of the wash sale, the disallowed $5,200 loss must be added to the basis of the replacement shares.
Statement 4 is true: The cost basis of the July shares = $22,100 (purchase + commission) + $5,200 (disallowed loss) = $27,300. This preserves the tax benefit by increasing basis, which will reduce gain (or increase loss) when eventually sold.
The Series 65 exam tests detailed knowledge of wash sale rules and basis adjustments. Understanding that disallowed losses are added to replacement share basis (rather than permanently lost) is critical for tax-loss harvesting strategies and client education about trading restrictions.
What concepts relate to Cost Basis?
This term is part of this cluster :
Where does Cost Basis appear on the Series 65 exam?
This term is tested in the following Series 65 exam topics: