What Is Cost Basis in Real Estate: How It Affects Capital Gains Tax

When engaging in real estate transactions, one crucial concept to grasp is the cost basis. The cost basis in real estate is fundamental for determining capital gains tax when you sell the property. In this blog, we will explore what cost basis is, how it is calculated, and why it matters for tax purposes.

What is cost basis in simple terms?

The cost basis in real estate represents the original cost of a property, adjusted for various factors, and helps determine capital gains or losses when the property sells. Understanding your property’s cost basis can significantly impact your taxable income and tax return. This guide will break down the components of cost basis, how to calculate it, and its importance in real estate transactions.

What is the difference between cost basis and market value?

Cost Basis. This is the original value of an asset for tax purposes, including the purchase price and any additional costs related to acquiring the asset. It remains constant unless adjusted for certain tax events.

Market Value. This is the current price at which an asset can be bought or sold in the market. Market value fluctuates based on supply and demand, economic conditions, and other factors.

Difference. While cost basis represents the amount initially paid for an asset and used for tax calculations, market value reflects the asset’s current worth in the market. Calculate capital gains or losses by comparing the market value at the time of sale to the cost basis.

What is the cost basis sold?

Cost basis sold refers to the cost basis of an asset that sold. When selling an asset, use the cost basis to calculate the capital gain or loss, which is the difference between the sale price (market value at the time of sale) and the cost basis. This figure is important for tax reporting, as it determines the taxable profit or loss from the sale.

How do you set a cost basis?

Setting a cost basis involves several steps:

Purchase Price. Start with the initial amount paid for the asset, including the purchase price.
Additional Costs. Add any related expenses, such as commissions, fees, and improvements, like adding a room or renovating the kitchen. For real estate, this could include closing costs, legal fees, and significant property improvements.
Adjustments. Make any necessary adjustments for events like stock splits, dividends, or return of capital distributions. In the case of real estate, adjustments might include depreciation or casualty losses, such as damages from fires or storms.
Inherited or Gifted Assets. For inherited assets, the cost basis is typically the fair market value at the original owner’s death. For gifted assets, use the donor’s cost basis as the starting point, with adjustments based on the asset’s value at the time of the gift.

Accurately setting and maintaining cost basis records ensures proper calculation of capital gains or losses when the asset sells.

Example Calculation

For example, suppose you purchased a rental property for $200,000 and made $50,000 worth of improvements. Over the years, you claimed $30,000 in depreciation. When you decide to sell the property, your adjusted cost basis would be:

Initial Purchase Price (Original Cost): $200,000
Plus Improvements: $50,000
Minus Depreciation: $30,000
Adjusted Cost Basis: $220,000

If you sell the property for $300,000, your capital gain would be $300,000 – $220,000 = $80,000. So, this capital gain is what you will pay taxes on, influencing your tax return and taxable income

Bottom line

Finally, understanding the cost basis in real estate is essential for managing your tax obligations effectively. It affects how much you will owe in capital gains tax and helps in accurately reporting your taxable income. Also, by keeping meticulous records of your property’s purchase price, improvements, depreciation, and selling expenses, you can ensure that you correctly calculate the adjusted cost basis and minimize your tax bill.

What Is Cost Basis In Real Estate? was last modified: December 23rd, 2025 by Vanessa Gallanti

Written by Vanessa Gallanti. December 31, 2025

Enthusiast about planning, project management, construction materials and technology, and construction. A civil engineer from Los Andes University and a content writer for Kukun.