Cost Basis

The basis of property you buy is usually its cost. Cost is the amount you pay in cash, debt obligations, other property, or services. Your cost includes amounts you pay for sales tax, freight, installation, and testing. The basis of real estate and business assets will include other items, discussed later. Basis generally does not include interest payments.

You may also have to capitalize (add to basis) certain other costs related to buying or producing property. Under the uniform capitalization rules, discussed later, you may have to capitalize direct costs and certain indirect costs of producing property.

Loans with low or no interest. If you buy property on a time-payment plan that charges little or no interest, the basis of your property is your stated purchase price minus the amount considered to be unstated interest. You generally have unstated interest if your interest rate is less than the applicable federal rate. See the discussion of unstated interest in Pub. 537, Installment Sales.

Real Property

Real property, also called real estate, is land and generally anything built on, growing on, or attached to land.

If you buy real property, certain fees and other expenses related to the purchase of the property are part of your cost basis in the property. Some of these expenses are discussed next.

Lump-sum purchase. If you buy improvements, such as buildings, and the land on which they stand for a lump sum, allocate your cost basis between the land and improvements. See Allocating the Basis , later.

Real estate taxes. If you pay the real estate taxes the seller owed on real property you bought, and the seller did not reimburse you, treat those taxes as part of your basis. If the seller reimburses you for the portion of real estate taxes from the time they owned the property, reduce your deductible real estate tax expense by the amount of the reimbursement.

If you reimburse the seller for taxes the seller paid for you, you can generally deduct that amount as a tax expense in the year of purchase. If you do not reimburse the seller for real estate taxes, you cannot deduct the amount paid on your behalf as a tax expense. In either case, do not include that amount in the basis of your property.

Settlement costs. Your basis includes the settlement fees and closing costs for buying the property. See Pub. 551 for a detailed list of items you can and cannot include in basis.

Do not include fees and costs for getting a loan on the property. Also, do not include

Points. If you pay points to get a loan (including a mortgage, second mortgage, home equity loan, or line of credit), do not add the points to the basis of the related property. You may be able to deduct the points currently or over the term of the loan.

Assumption of a mortgage. If you buy property and assume (or buy the property subject to) an existing mortgage, your basis includes the amount you pay for the property plus the amount of the mortgage that you assumed.

Example. If you buy a farm for $100,000 cash and assume a mortgage of $400,000, your basis is $500,000.

Constructing assets. If you build property or have assets built for you, your expenses for this construction are part of your basis. Some of these expenses include the following costs.

• Land.

• Labor and materials.

• Architect’s fees.

• Building permit charges.

• Payments to contractors.

• Payments for rental equipment.

• Inspection fees.

In addition, if you use your own employees, farm materials, and equipment to build an asset, you must capitalize the following expenses by including them in the asset’s basis. Do not deduct them as current business expenses.

• Employee wages paid for the construction work, reduced by any employment credits allowed.

• Depreciation on equipment you own while it is used in the construction.

• Operating and maintenance costs for equipment used in the construction.

• The cost of business supplies and materials used in construction.

Do not include the value of your own la-