Mutual fund cost basis can be calculated using FIFO, specific identification, or average cost methods, but rules vary by country. Loads and fees can be added to the cost basis. No-load funds may still have transaction fees, which are not part of the cost basis unless they are tax deductible.
The cost basis of mutual funds represents the premium that the investor paid to purchase the shares of a particular fund. Investors can calculate the cost basis of a mutual fund sale redemption using an accounting method called the first-in, first-out (FIFO) method. Alternatively, investors can use the specific identification method or the average cost method, although the rules on calculating the cost basis for tax reporting purposes vary from country to country.
Many mutual fund companies require investors to pay fees known as loads each time shares are bought or sold. Fees paid at the time of purchase are called initial charges, and in most countries, investors can add these charges to the cost basis of mutual funds. When an investor sells a stock, the investor deducts the cost of the stock and the charge from the redemption value and reports the difference as the taxable gain on the transaction. Mutual fund share prices are determined after the stock market closes for the day, and the share price depends on the closing values of the securities held within the fund. Consequently, if an investor buys multiple shares in a particular fund in a single day, all of those shares will have the same price and cost basis.
When an investor buys a number of shares in a particular fund at different time periods, each of those shares has a different cost basis. If the investor then sells those shares at regular intervals, he normally has to calculate the cost basis of the shares using the FIFO method. Under FIFO, it is assumed that the first shares an investor buys are the first shares the investor sells.
The specific identification method allows investors to specify the shares that are being traded at a particular time. This means that an investor can choose to sell the shares that were purchased at the higher price to minimize capital gains and taxes that result from the redemption of shares. The average cost method involves adding the total cost of stock purchases and loading fees and dividing that total by the number of shares the investor owns. Each share has the same cost basis, although the capital gains on share redemption may vary if the investor sells the shares at different times.
Some mutual fund companies sell so-called no-load funds, and investors do not have to pay any loads to buy these shares. However, in many cases, shareholders with no-load shares have to pay transaction fees to purchase shares, but these are processing fees rather than sales commissions and are not considered part of the mutual funds’ cost base. Therefore, transaction fees are not added to the purchase price when calculating the cost basis for mutual funds unless the investor can write these fees off as tax deductions.
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