Average Basis Method

Basically, average basis is the average cost of all the shares you purchased. You can use this method of calculating your basis only if you purchased your mutual fund shares at various times and prices, and you left the shares on deposit in an account handled by a custodian or agent (such as a broker or the mutual fund company itself). Most mutual funds calculate the average basis for you and send you a statement with this information.

You can calculate the average basis in 1 of 2 ways:

• Single-category method

• Double-category method

Single-Category Method

Using this method, all the shares you owned within a fund at the time of the sale are combined into 1 group. The basis of each share is the total basis of all the shares in your fund divided by the total number of shares. When determining the holding period, the shares sold are the shares that you purchased first.

Example

You sold 400 shares of a mutual fund on June 14, 2009, for $4,000. At the time of the sale, you held a total of 526 shares that you purchased at various times:

Using the single-category method, your basis per share is $9.51:

     $5,002.68 (Total cost) / 526 (Total shares) = $9.51 per share

And the basis of all the shares you sold is $3,804:

     $9.51 (Cost per share) X 400 (Shares sold) = $3,804

Because you did not specifically identify shares, you are considered to have sold the shares that you purchased first, this means that you sold the following shares:

240 shares acquired 01/03/07
  25 shares acquired 07/03/07
  57 shares acquired 01/06/08
  78 shares acquired 12/22/08

Because you held the 78 shares acquired on December 22, 2008, for less than a year, you recognized a short-term gain (or loss). You recognized a long-term gain (or loss) from the remaining 322 shares because you held them for more than a year.

Your basis for the short-term shares sold is $741.78:

     78 (Shares sold) X $9.51 (Average cost per share) = $741.78

Your gross proceeds from the short-term shares you sold is $780.00:

     $4,000 (Total sale price) / 400 (Total shares sold) X 78 (Short-term shares sold) = $780.00

Your basis for the long-term shares sold is 3,062.22:

     322 (Shares sold) X $9.51 (Average cost per share) = $3,062.22

Your gross proceeds from the long-term shares you sold is $3,220:

     $4,000 (Total sale price) / 400 (Total shares sold) X 322 (Long-term shares sold) = $3,220

Enter your short-term and long-term sales separately in the Sale of Stocks, Bonds, Mutual Funds, and Investment Property section of the Interview. Make sure to enter Var-S for the date you purchased the short-term shares that you sold and Var-L for the long-term shares.

Double-Category Method

Using this method, all the shares in the fund at the time of the sale are divided into 2 groups--those held long-term and those held short-term. The basis for each share in each group is the total basis of the shares in that group divided by the number of shares in the same group.

You can specify the category that you want the shares to be sold from. If you decide to do this, you must:

• Tell the fund or your broker which category you are selling the shares from.

• Make sure that the fund or your broker sends you written confirmation that the shares sold were from the category you specified.

If you don’t specify the shares sold, or if you don’t receive written confirmation that the shares sold were from a specific category, you are assumed to have sold the long-term shares first.

After you’ve held shares for more than 1 year, you must transfer those shares from the short-term category to the long-term category. The basis of these shares is generally the amount you paid for them. However, if you’ve already sold some of the shares in the short-term category, the IRS assumes that the shares you sold were the shares you purchased first. The basis of the shares transferred to the long-term category is the average basis of the remaining shares at the time you sold the shares from the short-term category.

Example

Using the information from the previous example, we’ll now figure your basis using the double-category method.

Shares held long-term:

Your basis per share is $9.32:

     $3,000.52 (Total cost) / 322 (Total number of long-term shares) = $9.32

Shares held short-term:

Your basis per share is $9.81:

     $2,002.16 (Total cost) / 204 (Total number of short-term shares) = $9.81.

Assuming that you sold the shares you held long-term first, you sold 322 long-term shares and 78 short-term shares.

You enter the information in the Interview in the same way as in the above example for the single-category method, except that the cost basis of your long-term and short-term shares will be different.

For the cost basis of your long-term shares, you enter $3,001.04:

322 X $9.32 = $3,001.04

And for the cost basis of your short-term shares, you enter $765.18:

78 X $9.81 = $765.18

Remember, after you’ve held shares for more than 1 year, you must transfer those shares from the short-term category to the long-term category. In the example above, you’ll have to transfer the 160 shares you purchased on December 22, 2008, to the long-term category on December 23, 2009. For details on how to do this, see IRS Publication 550: Investment Income and Expenses.

In Summary

• Of the 2 methods, the single-category method is much easier.

• When using the average basis method, enter the word Various in Column b (Date acquired) on Schedule D.

• Once you decide to use the average basis method for a specific fund, you must use it for all future sales as long as you own shares of that mutual fund. However, you can use different methods for different mutual funds that you own.