What is 'Purchase Price'
A purchase price is the price an investor pays for an investment, and the price becomes the investor’s cost basis for the calculation of a gain or loss when the investment is sold. The purchase price includes any commissions or sales charges paid for the investment, and weighted average cost is used for multiple purchases of the same security.
BREAKING DOWN 'Purchase Price'Assume, for example, an investor buys 100 shares of Ford common stock on three different dates over a five-year period, including 100 shares purchased at a market price of $40, $60 and $80 per share.
Factoring in Weighted Average Cost
To determine the cost basis of the purchases, the investor needs to calculate weighted average cost, which is defined as the total dollar amount of the purchases/number of shares purchased. At 100 shares each, the dollar amounts of Ford stock purchases are $4,000, $6,000 and $8,000, or a total of $18,000, and the purchase total is divided by 300 shares to equal $60 per share. If the investor adds to the stock position, he can calculate a new weighted average price by adding the dollar amount of the new purchases and the additional shares to the calculation. The formula can also be adjusted for stock sales, if the investor only sells a portion of the holdings. Assume, with commission costs added, the investor’s weighted average cost is $62 per share.
The Differences Between Realized and Unrealized Gains
Investors use the purchase price of an investment to calculate realized gains or losses for tax purposes, and that activity is reported on Schedule D of IRS Form 1040. A realized gain is reported when the investor sells some or all of his investment holdings, and if no securities are sold, the investor has an unrealized gain or loss, which is not reported for tax purposes.
Assume, for example, an investor sells 100 shares of Ford stock at a sale price of $80 per share and uses the weighted average cost of $62 to calculate a realized gain of $18 per share. The number of shares, along with the weighted average cost and the sale price per share, are reported on Schedule D. The total realized gain of $1,800 is considered long term, since the shares were held for more than one year. The $1,800 long-term capital gain is offset by any capital losses, and the net gain is taxable using capital gain tax rates.