Monday, May 7, 2007


As Kay Bell of DON’T MESS WITH TAXES reports in her May 5th posting, George W’s fiscal 2008 budget includes a proposal that would require brokers to report cost basis information to taxpayers and the IRS. If approved, the reporting change would affect publicly traded stocks, mutual fund shares and securities purchased on Jan. 1, 2009, and later.

This idea is nothing new. Similar legislation was introduced in the last Congress, and Democrat Sen. Evan Bayh, one of its authors, plans to reintroduce it this year. I also believe that instituting this requirement was one of National Taxpayer Advocate Nina Olsen’s recommendations a few years ago.

Currently, many mutual fund houses provide clients with Average Cost Statements along with the 1099 information when fund shares are sold. And many brokerage houses provide P+L reports in their consolidated year-end 1099 statements. However, these reports generally only include investment sales where both the purchase and sale was made through that broker. The cost price of a stock purchased by a taxpayer when a client of UBS will not be reported on the P+L generated by Merrill Lynch when the taxpayer changes brokers, or the broker changes houses, and sells the stock.

Sometimes when a broker changes houses he will bring along the cost basis information of clients who follow him, and enter this info into the system of his new employer. However, this is extremely rare.

Having to come up with a cost basis for investments sold is perhaps the number one cause of delays in preparing client returns during the tax-filing season. More often than not clients do not provide me with sufficient cost basis information – they give me the 1099-B reporting “gross proceeds” and expect me to know the cost basis by some kind of magic.

Some brokerage houses will include a schedule of investment purchases in their year-end consolidated package – but others do not. Merrill Lynch used to provide such information years ago - but not any more. When provided, I photocopy these schedules and attach them to my copy of the tax return.

Determining the cost basis of an investment sold becomes more complicated when dividend reinvestment, splits, spin-offs, etc are involved. The individual websites of publicly traded companies often provide worksheets or guidance for determining cost basis when there have been splits and spin-offs under “Investor Relations” – but the process is time consuming. When I am stuck I turn to a longtime friend, client and fraternity brother, a broker, for help.

Nothing would please me more than if all brokerage and mutual fund houses were required to report cost basis on all Form 1099-Bs. It would certainly make my life much easier during the tax-filing season.

One of the GD extensions currently in my “red file” box is from a client who sent me her “stuff” before March 31st, but did not include the date of purchase and cost basis for her one stock sale of the year. I contacted her broker but with no success - the stock had been purchased years before by another broker from a different brokerage house and transferred in to her current brokerage account. While I had photocopied her year-end consolidated statements from all brokerage accounts over the years I could find no information on the purchase of the investment in my file. A real PITA!

If this new requirement becomes law (fingers crossed) I would expect that the cost basis for stocks would be reported using FIFO (first-in first-out) method. However, taxpayers have four (4) options when it comes to calculating the cost-basis of mutual fund shares sold:

· First-in first-out
· Specific share identification
· Average Cost - Single-category method
· Average Cost - Double-category method

As mentioned above, currently mutual fund houses will report the cost basis of shares sold using one of the Average Cost options. I find that, on average, using FIFO will result in a larger cost basis – but I use the cost basis provided on Average Cost Statements when preparing the Schedule D unless I have readily available all the purchase information necessary to calculate the FIFO basis. I would hope that required cost basis reporting for mutual funds would use the FIFO method – leaving taxpayers the option to elect to use one of the other methods.

So what do you think?

While we are on the subject here is a reminder - according to T.C. Memo 2003-259, if a taxpayer cannot provide proof of the cost basis of a stock or other investment sale it will be considered to have a "0" cost basis. As a result, the entire gross proceeds are fully taxable! See my 2006 posting on “Keeping Track of Investment Cost Basis”.


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