Tax Basis vs. Cost Basis
When you begin to get your cost basis statements from Schwab or Ameritrade, which is being required for IRS regulations now, you may see a discrepancy between what you paid for a mutual fund and what the new cost basis is for tax purposes. A good example may be an income or bond fund.
Purchase price of bond fund A: $50,000
Tax basis: $55,000
The difference is due to dividends and interest that are reinvested. Using the same example above:
Year 1: Fund A reinvests $2,500 in more shares. You pay taxes on this amount.
Year 2: Same as above
And so on.
When you get ready to sell the shares in Fund A, the IRS allows you to calculate the tax basis by adding back the amounts that you have already paid taxes on. So a $50,000 investment becomes a $55,000 cost basis.
Aggressive growth stock funds may have less of interest and dividends reinvested, but may have capital gains distributed and reinvested. It is possible to invest $50,000 in a stock fund, have
$6000 distributed in capital gains, but show a loss when you sell it, if it is sold for less than
$56,000.
Hope this furthers your knowledge.
Debbie