Taming the Beast: Investment Basis Can be Complex Without Good Records
By Christine Hall, Partner, Hall, Murphy &d Schuyler,PC
Basis is a beast!
If you have ever owned anything like stock in any kind of business, a personal or rental home or investment land or timber (just to name a few) then you have had basis in that investment. The proper definition of basis is “the justification for or reasoning behind something” and that definition holds true in the tax world as well.
It is difficult to understand for most and even more difficult to ascertain unless good records are kept. Here is an example of when basis comes into play and some suggestions on how to keep good records so you are prepared when it is time to file the dreaded tax return.
Facts: An investor purchases a 10-acre tract of land for $50,000. The land includes timber and a pond that is 1 acre in size. After owning the property for three years, the investor thins the timber by about 50 percent and receives proceeds of $30,000. The timber tax that is paid is $325.
What is the basis in the timber that was cut?
Answer: The purchase price of the land, $50,000, is the total basis of the land, pond and timber. This basis must be divided up between these three items. Typically an appraisal of the timber would be done to determine the value of the timber. In this case, let’s assume that was indeed done and the value of the timber is $35,000. The difference is allocated to the land and pond $15,000 ($50,000 – $35,000). The per acre basis on the land and pond is therefore $1,500. The per acre basis on the timber is $3,888.89 ($35,000/9 acres).
The percentage of thinning needs to be taken into account. In the example above the timber was thinned by 50 percent, making the basis in the thinned timber $1,944.45 per acre ($3,888.89 times 0.50). Therefore, the basis in the timber that will be taken against the proceeds is $17,825.
This is calculated by taking the per acre basis for the thinning of $1,944.45 times 9 acres plus $325 in timber tax. The long-term capital gain on this timber sale is $12,175 ($30,000 – $17,825). The remaining basis on the timber is $17,500 ($35,000 original timber value – $17,500 timber basis). Calculating the remaining basis for future years is very important so basis is not counted twice or not at all.
As you can see from this example basis can be complex. Stock in a closely held S corporation has many factors that affect it and can be even more complex. To help your tax preparer compute and ensure that you are capturing the entire basis in your assets, be sure to keep track of the following:
- Purchase dates of all assets.
- The initial purchase price of all assets purchased.
- If you inherit a home, stock or land, an appraisal will probably have to be done to ensure that you have received a “stepped-up” basis or value in the asset.
- As assets are sold, be sure to keep the tax returns where those sales were reported, even if the typical seven-year timeframe passes when most taxpayers destroy their records.
- Any spreadsheets or files you have can also help, especially if you move and have to change tax preparers.
To state that “Basis is a beast” is not an exaggeration! If you are an investor, be diligent in your record keeping to help yourself get every dollar of basis you deserve!
Christine Hall is a partner in Hall, Murphy & Schuyler, PC, a full-service public accounting firm. They have a staff of experienced professionals that stand ready to meet all of your accounting, tax and general business needs. For a complimentary consultation, call 706-855-7733 or email at cmh@HMandScpas.com.