DEFINITION of Adjusted Basis
Adjusted basis has several applications in finance, but in each situation it involves a change to the recorded initial cost of an asset or security. The cost basis of an asset or security is the initial recorded value paid to acquire that asset or security. When certain events happen, the price paid has to be adjusted so that accurate gain and loss records can be kept for return calculations and tax purposes.
1) The cost basis of a security is sometimes adjusted when certain events happen. Some stocks pay dividends. A dividend paid in the form of additional stock will cause an adjustment in the cost basis of the original shares. The cost basis of the original shares will also be adjusted in the event of a stock split or a capital distribution. Dividends paid by the issuing company in cash do not cause an adjusted basis.
2) When a person or company owns an asset such as a piece of heavy machinery or a house, depreciation can be claimed due to wear and tear on the asset. When depreciation is claimed, the cost basis of the asset changes. On the other side of the coin, improvements to an asset can also cause a reassessment of cost basis leading to a basis adjustment.
3) When a person passes away, their assets may be passed on to loved ones. After proper death protocols, the assets that are passed on to heirs receive a step-up in basis. This means all of the willed assets receive an adjusted basis that is valued as of the date of the deceased person's death. Passing on assets after death and the resulting adjusted basis can allow loved ones to sell assets that have been willed to them with little or no tax consequences.
BREAKING DOWN Adjusted Basis
Adjusted basis is an updated original purchase cost of an asset. Its primary purpose is that it is used to compute the gain or loss on the sale of that asset.