Average Cost Basis

It's a tax issue. The IRS is really interested in how many gains or losses you make on your mutual funds, stock purchases and other investments because they want to be sure to tax you on your gains. The average cost basis is one way to arrive at an answer.

Basically, you tally up everything and divide by the number of shares to get the number. Example: You liked AT&T at $40 a share. You bought 500 shares. You liked it even more at $35 and bought 1,000 shares. You loved it at $30 and bought 2,000 shares. You adored it at $25 and bought 5,000 shares. Add up the total shares you purchased and figure out the total you paid for everything. Then divide the amount you paid by the shares you have. That gives you an average cost basis is $28.24 (forget commissions).

The stock then went to $50 and you sold half your holdings, or 4,250 shares. How much gain was there? Well, you take the average cost in for half of your shares, and you match it with the average cost out. In this case, you are realizing gains per share of $50 - $28.24 or $21.76 x 4,250 shares or $92,480.