It is a tax rule used when determining the capital gain or loss of an investment. The FIFO rule — or First In, First Out — determines that the first financial asset purchased is also the first to be sold.
The FIFO rule is very important when calculating how much money you have earned with your investments and, therefore, how much you will have to pay for them when filing your income tax return.
As an example, if you purchased shares of the same company at three different times and then sell a portion of that investment, the first shares to be sold will also be the first shares that you purchased.
The sequence would be as follows:
January: 10 shares purchased at €150 each.
April: 10 shares purchased at €200 each.
June: 10 shares purchased at €175 each.
September: 10 shares purchased at €215 each.
In December, you sell 20 shares at a price of €250 each. Under the FIFO rule, the shares to be sold will be those you acquired in January and April and their purchase price will be used to calculate your capital gain. This gain is the difference between the purchase and sale price.
Namely:
January shares: 250 – 150 = €100 per share.
April shares: 250 – 200 = €50 per share.