Since many people who hang around the Fool area invest in companies that have Dividend Reinvestment Programs (or DRIPs for short), I see this type of question quite often:

Q: If a DRIP charges you a service charge in addition to commissions when you purchase shares, can you add the service charge to your cost basis for tax purposes? Or is the charge considered a "miscellaneous expense," and therefore not included as part of the cost basis?

I read recently in Better Investing that the NAIC's $7 setup charge for new DRIPs cannot be added to one's cost basis, so I'm assuming the same is true for later purchases. Chuck Carlson (MF DRIPS) says you can deduct the expense if you itemize, but he wasn't sure about adding it to the cost basis. What do you think?

A: The law is pretty clear on this one. IRS Publication 529 (pg. 5-6) and RevRule 78-375 both state that DRIP service charges are expenses for the production of income, and cannot be added to the basis of the shares purchased. These service charges can only be deducted as a miscellaneous itemized deduction on Schedule A, subject to the 2% of Adjusted Gross Income (AGI) limitation.

On the other hand, DRIP commissions paid (either directly or indirectly) in order to purchase the shares can clearly be added to the cost basis of the stock when purchased.

So you have to identify what expenses are "charges" and what expenses are "commissions." Once you have made that determination, the remainder of the answer is easy. Even though the answer is not one that you might like.

- Article 08

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