# How to Calculate the Cost Basis for Mutual Funds With Reinvested Dividends

You have scored a nice profit on you mutual fund and now comes the hassle of figuring out the taxes. You pay taxes based on the selling price of your shares minus your "cost basis," or what you paid for them -- including the dollar value of all dividends you reinvested. Dividend reinvestment makes the equation a little tricky, but you want to avoid giving Uncle Sam another slice of your dividends that have already been taxed. If you sold just some of your shares, you can choose from several cost-basis methods.

## Account Cost Basis

If you have only made investments into your mutual fund and never unloaded any shares, your cost basis is the total amount you have invested in the fund. This includes actual investments, such as your initial purchase and the other times you mailed in a check or did an electronic transfer to buy more shares. Reinvested dividends and capital gains distributions are also investments. Dividends become your money as soon as they are earned, so reinvestment just funnels more of your cash into the fund. Dividend reinvestment results in a cost basis that is higher than the actual dollar amount you have sent off to buy shares.

## Average Per Share

If you sell just some of you mutual fund shares, you can claim the cost basis for those by using one of three methods backed by the Internal Revenue Service. Average cost basis works like it sounds, dividing the total cost basis of the account by the number of shares you own. Multiply the average basis per share by the number of shares you sold and you have the tax cost for that particular sale. The average cost basis per share changes each time you pick up or siphon off shares, or reinvest dividends.

## First In, First Out

The "first in, first out" method means that for tax purposes, when you dump some fund shares, you are selling the oldest shares in your account first. If you cash in 100 shares, you need to dig out your account statements and add up the price you paid for the first 100 shares in the account. Those shares may have been purchased or come from reinvested dividends. After the initial sale using the FIFO method, keep track of what shares have been sold so you can determine the next in line for future sales.

## Pick a Share, Any Share

The IRS allows you to choose which shares were sold from your account. For example, if you unload 100 shares, you can go through your statements to pick out the 100 with the highest purchase price to help cut your taxes on the sale. If you make multiple sales of your mutual fund shares, this method requires accurate record keeping on the purchase dates and prices of the shares you sold. The designated-share method gives you the most control over the taxes on your mutual fund profits.

## Fund Company Help

For any shares bought after Jan. 1, 2012, mutual fund companies are required to provide cost-basis information on IRS Form 1099 when you sell the shares. You need to tell the fund company which cost-basis method you will use on your tax return so the 1099 information matches what you claim on your return. Most fund companies will also do the basis calculation for shares purchased before Jan. 1, 2012. A fund company can make short work of the FIFO or designated-share methods, saving you a pile of work at tax time.

#### About the Author

Tim Plaehn has been writing financial, investment and trading articles and blogs since 2007. His work has appeared online at Seeking Alpha, Marketwatch.com and various other websites. Plaehn has a bachelor's degree in mathematics from the U.S. Air Force Academy.

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