Recall from the previous video, our formula for determining gains and losses. In the previous video, we focused on the amount realized which at a high level is all the stuff that the seller gotten of value as a result of a property transaction. This can include getting cash, or other property, or getting rid of a liability. But to obtain the realized gain or loss we need to compare the amount realized to the adjusted basis of the property. In this video I'll introduce the concept of adjusted basis and we'll do an example. Adjusted basis is defined as the original basis of the property reduced by accumulated cost recovery deductions and or increased by any capital improvements. Recall from the previous set of videos where we discussed cost recovery deductions. If we sum each year's depreciation deductions, we will obtain the accumulated depreciation on that asset over time. This accumulated depreciation will reduce the original basis of the asset. That is, it will adjust the basis downwards. The same idea holds if it's an intangible asset, the accumulated amortization will decrease the original basis of the intangible. Or if it's a natural resource the accumulated depletion will reduce the original basis in the natural resource. If however, there are any capital improvements that extend the life of the particular asset then we will increase the basis by that amount. That is we will adjust the basis upwards. In short the formula for adjusted basis equals the original basis minus the accumulated cost recovery deductions plus any capital additions. Knowing the amount realized from the previous video, and now the adjusted basis from the last slide, we can calculate the realized gain or loss. This is defined quite obviously as the gain or loss that is realized on the sale disposition or exchange of the asset. That is, it reflects the economics of the transaction. Did the taxpayer gain or lose on the transaction? The formula here helps to see this comparison. Here the gain or loss realized is simply the difference between the amount realized and the adjusted basis. Again, we can think of the amount realized as what the taxpayer "Got" of value in the transaction, whereas the adjusted basis is the basis or the net book value of what the taxpayers gave up in the transaction. Here are a few more examples. Let's say we have three business use assets; Office furniture, a warehouse, and a delivery truck. We sold the furniture for $12,000. The Warehouse for $350,000, and the truck for $2,000. We need to compare the amount realized in column a to the adjusted basis in column d, in order to figure out a realized gain or loss in the last column. Now to figure out the adjusted basis we need the original cost which is reported in column b, and we need to subtract out the accumulated depreciation reported in columns c. Taking the difference in these two columns gives us the adjusted basis in column d. For example, the furniture cost $10,000 and it's been depreciated by $7,000. Therefore, the adjusted basis is $3,000. The warehouse cost $275,000 and it was depreciated by $15,000. So the adjusted basis is $260,000. Finally, the delivery truck costs $15,000. It has accumulated depreciation of $10,500, which leaves us with an adjusted basis of $4,500. So to get to the realized gain or loss, we take the amount realized in column a, upon the sale of each asset then subtract the adjusted basis in column d. So the furniture here has a gain of $9,000, or the $12,000 amount realized minus $3,000 adjusted basis. The warehouse has a $90,000 gain or the $350,000 amount realized, minus the $260,000 adjusted basis, and here the truck has a realized loss, or the $2,000 amount realized minus the $4,500 adjusted basis. In total we have a realized gain of $96,500. So in summary, in order to obtain the realized gain or loss we must take the difference between the amount realized and the adjusted basis. We looked at the amount realized in the previous video, but in this video we saw that the adjusted basis is the original cost minus the accumulated cost recovery plus any capital improvements. At a high level the realized gain or loss is like the economic gain or loss from the transaction, we'll compare all the stuff that the taxpayer "Got" of value i.e to the amount realized, to the net book value or adjusted tax basis of what the taxpayer gave up.