Adjusted Basis
Definition
The adjusted basis (or adjusted tax basis) of a property is the original cost or other basis of the property, which is adjusted by taking into account specific factors. These adjustments include reductions for depreciation deductions and increases for capital expenditures. The adjusted basis is employed in various tax calculations, particularly in determining the gain or loss upon the sale or disposition of the property.
Examples
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Residential Property: Suppose an individual purchased a house for $200,000. Over the years, they claimed depreciation of $20,000 and made capital improvements costing $30,000. The adjusted basis of the house would be calculated as: \[ \text{Adjusted Basis} = $200,000 - $20,000 + $30,000 = $210,000 \]
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Commercial Equipment: A business buys a piece of equipment for $50,000. Over its useful life, the business claims a total depreciation of $15,000. The adjusted basis, assuming no capital improvements, would be: \[ \text{Adjusted Basis} = $50,000 - $15,000 = $35,000 \]
Frequently Asked Questions
Q1. Why is the adjusted basis important?
A1. The adjusted basis is crucial for determining the amount of gain or loss when selling or disposing of property. It affects the calculation of taxable income and can have significant tax implications.
Q2. How do depreciation deductions affect the adjusted basis?
A2. Depreciation deductions decrease the adjusted basis of a property over time. By reducing the original cost basis, depreciation reflects the property’s diminishing value due to wear and tear.
Q3. What are capital expenditures?
A3. Capital expenditures are investments made to improve the property or extend its useful life. These costs are added to the original basis, increasing the adjusted basis.
Q4. Can the adjusted basis be higher than the original cost?
A4. Yes, the adjusted basis can be higher than the original cost if the capital expenditures on the property exceed the depreciation deductions.
Related Terms
- Depreciation: The systematic allocation of the cost of a tangible asset over its useful life.
- Capital Expenditures: Expenses incurred to acquire or significantly improve a long-term asset such as property, buildings, or equipment.
- Gain or Loss: The difference between the proceeds received from the sale of property and its adjusted basis.
- Original Cost Basis: The initial amount paid to acquire the property, including purchase price, transaction fees, and any other related costs.
Online References
- IRS: About Publication 551 - Basis of Assets
- Investopedia: Adjusted Basis
- IRS: Publication 946 - How to Depreciate Property
Suggested Books for Further Studies
- “Tax-Free Wealth: How to Build Massive Wealth by Permanently Lowering Your Taxes” by Tom Wheelwright: A comprehensive guide on understanding taxes and strategies for minimizing them.
- “J.K. Lasser’s Your Income Tax Professional Edition 2022” by J.K. Lasser Institute: An authoritative guide on U.S. tax laws and how to apply them.
- “Income Tax Fundamentals 2021” by Gerald E. Whittenburg and Steven Gill: A textbook providing fundamental concepts and practical applications of income tax.
Fundamentals of Adjusted Basis: Taxation Basics Quiz
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