How is depreciation treated in calculating adjusted basis?

In calculating adjusted basis, depreciation is subtracted from the original basis of an asset. The adjusted basis reflects the asset’s current value for tax purposes, and depreciation reduces the basis because it accounts for the wear and tear of the asset over time as it is used in business or income-generating activities.

When an asset is used in a business, tax law allows for the allocation of its cost over its useful life through depreciation. This process acknowledges that although the asset has a value when purchased (the original basis), that value decreases as the asset depreciates. Therefore, by subtracting depreciation from the original basis, the adjusted basis presents a more accurate figure that might be used in determining capital gains or losses when the asset is sold.

The other choices do not accurately reflect the treatment of depreciation. Adding it back to the original basis or stating that it has no effect would misrepresent the actual financial and tax implications it has on the adjusted basis. Additionally, saying it is only applicable to business properties fails to recognize that depreciation can also apply to certain personal property used for income generation.