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Taxes

Cost basis doesn't equal performance

Cost basis won't tell you how much money you've made, but it will give you the information you need to file your taxes.

4 minute read

If it's not performance, what is it?

Some investors believe that when they reinvest dividends or capital gains—meaning they use the proceeds to buy more shares of the investment—that distribution becomes part of their investment return.

But here's what really happens: When the distribution is reinvested, it's added to your cost basis. Although the money was "earned" on the original investment by way of a distribution, it's not considered part of the investment's performance. Instead, the number of shares you own increases, as does the cost basis for those shares.

For this reason, cost basis should be used only to calculate capital gains and losses for tax-filing purposes—not to measure performance.

Consider this hypothetical example

Let's say you invest $10,000 in Mutual Fund A and $10,000 in Mutual Fund B on the same day. The $10,000 investment is the original cost basis for each fund.

Original cost basis

	MUTUAL FUND A	MUTUAL FUND B
Initial investment	$10,000	$10,000
Price paid per share	$10	$10
Number of shares	1,000	1,000
Original cost basis	$10,000	$10,000

During the first year, the value of Mutual Fund A goes up $1,000 because of market gains, but the fund pays no dividends. So Mutual Fund A ends the year with a balance of $11,000.

Mutual Fund B, on the other hand, experiences no market gains but earns $1,000 in dividends, which are reinvested. The year-end account value, however, is the same: $11,000.

Account activity

	MUTUAL FUND A	MUTUAL FUND B
Initial investment	$10,000	$10,000
Increase from market appreciation	$1,000	$0
Dividends paid & reinvested	$0	$1,000
Price per share for reinvested dividends	—	$10
Number of shares purchased with reinvested dividends	—	100
Year-end account value	$11,000	$11,000

Here's where cost basis and personal performance start to differ.

When Mutual Fund A's price increased, the value of the account increased to $11,000—but the cost basis remained steady at $10,000. The additional $1,000 is considered unrealized appreciation, which can be interpreted as performance.

But when Mutual Fund B's dividends were reinvested, the cost basis increased to $11,000 because the dividends were used to buy more shares and treated like any other investment made in the fund.

Year-end cost basis

	MUTUAL FUND A	MUTUAL FUND B
Year-end account value	$11,000	$11,000
Number of shares	1,000	1,100
Price per share	$11	$10
Capital gain	$1,000	$0
Year-end cost basis	$10,000	$11,000

This hypothetical example doesn't represent any particular investment.

Additional resources

See your cost basis summary

Prefer paper?

Download, complete & mail a Cost Basis Method Election Form (PDF)

Select a cost basis method

This information isn't intended to be tax advice and can't be used to avoid any tax penalties. We recommend you consult a tax advisor.