Why Tracking Basis in Real Estate Is So Important
If you're serious about building wealth through real estate, there’s one number you can't afford to ignore: your property’s basis.
Your basis is the foundation of almost every major tax calculation involving real estate. Miscalculating or neglecting to track your basis can lead to paying more in taxes than necessary—or worse, inaccurate tax returns that could trigger IRS scrutiny.
But here’s the catch: basis isn’t always straightforward. It changes depending on how you acquired the property—whether you bought it, inherited it, received it as a gift, or converted your home into a rental.
In this article, we’ll break down why tracking basis matters and exactly how to calculate it in four common real estate scenarios.
Why Does Basis Matter?
It determines how much depreciation you can deduct on rental properties.
It’s used to calculate your gain or loss when you sell a property.
It tracks the value of improvements over time.
How to Calculate Basis in Different Situations
1. New Property Purchase
Your basis starts with the purchase price, plus certain closing costs and any major improvements.
Example:
Purchase price: $400,000
New roof: $20,000
Total basis: $420,000
2. Converting a Personal Residence to Rental
When you convert your home into a rental property, your basis for depreciation becomes the lower of your adjusted cost or the fair market value (FMV) on the date of conversion.
Example:
Original cost: $450,000
FMV at conversion: $420,000
Depreciation basis: $420,000 (excluding land value)
3. Gifted Property
When you receive a property as a gift, you take over the donor’s basis, meaning whatever they paid (plus their improvements) becomes your basis.
Example:
Parent’s basis: $300,000
FMV at gift: $500,000
Your basis: $300,000
4. Inherited Property
When you inherit a property, your basis is stepped up (or down) to the fair market value on the date of the previous owner's death.
Example:
Original cost: $200,000
FMV at death: $700,000
Your basis: $700,000
Practical Records You Should Keep
Accurate basis tracking depends on good documentation. Here’s what you should keep in your files for each property:
Purchase Documentation:
Closing Disclosure or HUD-1 Settlement Statement
Purchase contract
Title insurance policy
Proof of payment for capitalizable closing costs (such as title fees, recording fees, and transfer taxes)
Improvement Records:
Receipts and invoices for major improvements (e.g., remodels, roofs, HVAC systems, additions)
Contracts with contractors or builders
Before-and-after photos for documentation
Dates and descriptions of the work performed
Conversion to Rental:
A professional appraisal or comparable market analysis (CMA) to establish fair market value at the time of conversion
Property tax assessments to help allocate land vs. building value
A list of any final improvements made before converting to rental use
Gifted Property:
Documentation of the donor’s original purchase price and improvements
Inherited Property:
Appraisal showing the fair market value on the date of death
Estate documentation (if applicable)
Ongoing Records:
Annual depreciation schedules (for rental properties)
Records of any partial dispositions (e.g., if you replace the roof, the old roof's remaining basis should be removed)
Records of casualty losses or insurance claims
Final Thoughts
No matter how you acquire a property, tracking your basis from the start—and keeping records of any improvements—is essential for maximizing tax benefits and minimizing surprises later.
Whether you're buying, renting, gifting, or inheriting real estate, understanding basis is a key part of building long-term, tax-efficient wealth.