What Is Cost Basis in Real Estate?

The cost basis is the original value used to determine taxable gain when selling a property. It typically includes the purchase price plus closing costs and certain improvements. Cost basis is essential for minimizing taxes and calculating capital gains.

How Cost Basis Works in Real Estate

When you sell a property, the IRS taxes you on your capital gain, not the full sale price. Cost basis is the starting point used to calculate that gain.

Basic Formula:

Adjusted Cost Basis = Purchase Price + Closing Costs + Capital Improvements − Depreciation

  • Repairs do not increase cost basis, but improvements do.
  • Depreciation taken on rental property reduces cost basis.
  • Higher cost basis = lower taxable gain when selling.

Example of Cost Basis

A rental property is purchased for $300,000 with $7,000 in closing costs and $40,000 in capital improvements. The owner has taken $25,000 in depreciation.

Adjusted Cost Basis:

$300,000 + $7,000 + $40,000 − $25,000 = $322,000

If the property sells for $450,000, the taxable gain is:

$450,000 − $322,000 = $128,000

What Can Adjust Cost Basis?

  • Capital improvements (add value, extend life, or adapt the property)
  • Depreciation taken on rental property
  • Casualty losses and insurance reimbursements
  • Certain selling or acquisition costs

Understanding adjusted cost basis helps investors minimize taxes and plan exits strategically.

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