What Is IRC 1012? Cost Basis Rules for Real Estate and Stocks

IRC Section 1012 sets the default rule for figuring the basis of property for federal tax purposes: the basis of property is its cost. That single sentence controls how you measure gain or loss on almost every sale or exchange, and understanding what “cost” actually includes is the foundation of the entire cost basis of property regime under Section 1012. Cost is not just the sticker price. It is the full amount you paid to acquire the asset and place it in service, and it becomes the running tally against which every future sale is measured.¹

What Section 1012 Actually Says

Section 1012(a) provides that the basis of property is its cost, except as otherwise provided in the code. Those exceptions are significant and are handled by separate sections for gifts, inheritances, corporate distributions, partnerships, and like-kind exchanges. When none of those special rules applies, 1012 controls, and cost is your basis.¹

Cost in this context reaches beyond the cash you handed over at closing. It includes any debt you take on to acquire the property, the fair market value of other property you trade for it, and the value of services you render as payment. It also picks up the incidental expenses of getting the asset into your hands and into service. IRS Publication 551 specifically lists sales tax, freight, installation and testing charges, excise taxes, legal and accounting fees that must be capitalized, revenue stamps, and recording fees.²

Think of basis as a total of every dollar you have invested in the asset that you have not already deducted somewhere else. Every dollar you capture in that number now is a dollar you will not pay capital gains tax on later.

Cost Basis for Real Estate

Real estate closings put the rule to work on a long list of line items, and the IRS draws a clear line between charges that go into basis and charges that do not.

Settlement and closing costs that become part of basis include abstract of title fees, charges for installing utility services, legal fees for the title search and deed preparation, recording fees, surveys, transfer taxes, and owner’s title insurance. If you agree to pay obligations that legally belong to the seller, such as back taxes, sales commissions, or repair charges, those amounts fold into your basis too.²

Costs tied to financing the purchase stay out. Points, mortgage insurance premiums, loan assumption fees, lender-required appraisal costs, and credit report fees are excluded. So are casualty insurance premiums, rent you pay to occupy the property before closing, and pre-closing utility charges.² The logic is straightforward: loan costs are about how you financed the deal, not what you paid for the property itself.

One statutory carve-out sits inside 1012 itself. Section 1012(b) excludes any real property taxes treated as imposed on you under the proration rules of Section 164(d). When buyers and sellers split property taxes at closing, the buyer’s share of taxes for the period after the purchase date is treated as a deductible tax expense, not an addition to basis.¹

Cost Basis for Stocks and Securities

For stocks and bonds, basis starts with the purchase price plus the costs of the purchase, such as brokerage commissions and transfer or recording fees.² From there, ordinary corporate actions and tax rules keep changing the number.

Stock Splits

A split is not a taxable event and does not change your total basis. You spread the same total across more shares. If you owned 100 shares at $15 each, giving a total basis of $1,500, a 2-for-1 split leaves you with 200 shares at a per-share basis of $7.50.³ Forget to make that per-share adjustment and you will overstate your gain when you sell.

Reinvested Dividends

Each reinvestment is treated as its own purchase with its own basis equal to the amount reinvested and its own acquisition date. The reinvestment does not change the basis of the original shares. Under Section 1012(d), stock acquired through a dividend reinvestment plan after 2011 can use the average basis method, which simplifies tracking when many small lots accumulate over time.¹

Wash Sales

If you sell a security at a loss and buy the same or a substantially identical security within 30 days before or after the sale, the loss is disallowed under the wash sale rule. The loss is not lost. The disallowed amount is added to the basis of the replacement shares, and the holding period of the original shares tacks onto the replacement.⁴

Covered vs. Noncovered Securities

Since 2011 for most stock and 2012 for mutual fund shares, brokers have been required to track cost basis and report it to the IRS on Form 1099-B. Securities acquired after those dates are “covered,” meaning the broker reports both proceeds and basis. Older “noncovered” securities have proceeds reported but not basis, so tracking falls on you.⁵ A 1099-B marked “basis not reported to IRS” does not mean the IRS is indifferent; it means the agency will compare your reported basis against whatever information it has, and mismatches draw notices.

Adjusted Basis: Cost Rarely Stays Put

The cost figure you start with under 1012 becomes your “adjusted basis” over time. IRC Section 1016 requires adjustments for expenditures, deductions, and other events that change your investment in the property.⁶ Adjusted basis, not original cost, is what actually appears in your gain-or-loss calculation at sale.

What Increases Basis

Capital improvements that add value, extend the property’s useful life, or adapt it to a new use increase basis. Publication 551 gives concrete examples: extending utility service lines, paying impact fees, legal fees for defending or perfecting title, zoning costs, and assessments for local improvements like road paving or drainage construction.² Ordinary repairs that keep the property in its current condition, such as patching a roof or painting walls, are not capital improvements and do not increase basis. The question is whether the work meaningfully changes the property’s value, function, or life expectancy.

What Decreases Basis

Deductions and credits you have already claimed against the property reduce your basis, because those dollars have already produced a tax benefit. Common decreases include depreciation and amortization deductions, Section 179 expensing, casualty and theft loss deductions, insurance reimbursements, certain energy credits, and nontaxable corporate distributions.²

Depreciation carries a trap worth calling out. Section 1016(a)(2) reduces basis by depreciation “allowed or allowable,” whichever is greater. Even if you never claimed depreciation on a rental property, the IRS still reduces your basis as if you had.⁶ Rental owners who skipped depreciation for years can find themselves paying gain on deductions they never actually took.

When Section 1012 Does Not Apply

Section 1012 is the default, not the universal rule. Several common ways of acquiring property bypass cost basis entirely, and it is worth knowing which because a reader assuming 1012 controls will get the wrong number.

Property received as a gift is governed by IRC Section 1015. Your basis for measuring gain is generally the donor’s adjusted basis at the time of the gift, carried over to you rather than reset to fair market value.⁷

Inherited property is governed by IRC Section 1014. The basis of property acquired from a decedent is generally the fair market value on the date of death, not the decedent’s original cost. That step-up wipes out appreciation that built up during the decedent’s lifetime.⁸

Like-kind exchanges of real property under IRC Section 1031 substitute a carryover basis rather than a fresh cost basis. The replacement property’s basis starts with the adjusted basis of the property you gave up, decreased by any cash received and increased by any gain recognized.⁹ After the 2017 Tax Cuts and Jobs Act, Section 1031 exchanges are limited to real property.

Property acquired to replace property destroyed, stolen, or condemned is handled under IRC Section 1033. When you elect to defer the gain, the replacement property’s basis is its cost reduced by the deferred gain, again preserving the untaxed appreciation inside the new asset.¹⁰

Records You Need to Keep

The IRS requires you to keep records related to property until the statute of limitations expires for the tax year in which you dispose of it. For most returns, that is three years after filing. If you received property through a tax-deferred exchange, records for both the old and the new property must be kept until the limitations period expires for the year you dispose of the replacement.¹¹ In practice, closing documents, improvement receipts, and depreciation schedules should live in your files for decades if you own rental property or have chained together like-kind exchanges.

For securities, brokers now report cost basis to the IRS on Form 1099-B for covered securities, generally stock acquired for cash after 2010 and mutual fund shares acquired after 2011.⁵ For noncovered securities acquired before those dates, the reporting burden falls on you. Reconstructing basis after years of mergers, spin-offs, reinvestments, and broker changes is far harder than keeping the record from day one.

1
Office of the Law Revision Counsel. 26 U.S. Code 1012 – Cost
2
Internal Revenue Service. Publication 551, Basis of Assets
3
Internal Revenue Service. Stocks, Options, Splits, Traders
4
eCFR. 26 CFR 1.1091-1 – Losses from Wash Sales of Stock or Securities
5
Internal Revenue Service. Instructions for Form 1099-B (2026)
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Office of the Law Revision Counsel. 26 U.S. Code 1016 – Adjustments to Basis
7
Office of the Law Revision Counsel. 26 U.S. Code 1015 – Basis of Property Acquired by Gifts and Transfers in Trust
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Office of the Law Revision Counsel. 26 U.S. Code 1014 – Basis of Property Acquired from a Decedent
9
Office of the Law Revision Counsel. 26 U.S. Code 1031 – Exchange of Real Property Held for Productive Use or Investment
10
eCFR. 26 CFR 1.1033(b)-1 – Basis of Property Acquired as a Result of an Involuntary Conversion
11
Internal Revenue Service. How Long Should I Keep Records?