Saturday, July 16, 2011
Clearing Up Cost-Basis Confusion
New IRS rules for cost-basis reporting are here. That means headaches, and opportunities for brokerages that can automate the task.
The first phase of the IRS’ revised cost-basis reporting rules—requiring brokers and investment managers to report not only the total proceeds from an investment sale, but also the amount paid for it—is under way, and is already prompting some rethinking. Since our readers have identified the tax switch as a key concern, we thought it was a good time to describe what’s up. But first, a little background.
The initial phase went into effect at the start of this year, covering stocks purchased after Jan. 1. For 2012, brokers will have to report similar information to the IRS about mutual-fund sales and, in 2013, the program will be expanded to options and fixed-income. Any position opened prior to Jan 1, 2011, is subject to the previous rules: You have to voluntarily report the cost basis on your tax returns.
Scivantage (http://www.scivantage.com), publishers of Maxit cost-basis reporting systems, is one of the software providers working with online brokers to keep track of transactions and other factors that affect cost-basis calculation. On its behalf, Celent, a research and consulting firm, published a report entitled, “Cost Basis Reporting: Where Are We Now?” in late June. A copy is available at http://info.scivantage.com/CostBasis-ReportingCelentReport6-2011-Download.html.
The report says many brokers may have panicked in trying to meet the IRS mandate. Isabella Fonseca, research director of wealth management at Celent and co-author of the study, says the regulations, “were significantly more complicated than firms had anticipated. The rush to meet the government’s requirements has led to short-term solutions and a second round of long-term selections.”
The 1099-Bs investors receive from brokers early in 2012 will have a slightly different look, and the Celent report points out the likely fallout: “…firms are likely to experience an influx of inquiries from clients. Questions may include why some security types are showing [up], but others are not (as a result of later compliance dates for different securities).” In other words: a headache for brokers as they comfort their bewildered customers.
There is a silver lining for brokers that get it right. The ability to help customers manage the tax consequences of a trade can be a terrific benefit. Though some features—such as short-term versus long-term after-tax comparison, tax-lot harvesting, pre-trade tax analysis, and pre-trade wash sale identification and analysis—may not seem to be of critical importance right away, in the long run they are exactly the ones that will keep investors happy.
The free downloadable reportpoints readers to the Scivantage suite, of course. But it also paints an interesting picture of the current reporting conundrum.
The main issue, in our opinion, will be identifying wash sales—the sale of an investment at a loss, followed by the purchase of a similar investment within 30 days—through multiple accounts. The IRS doesn’t care whether you sold a stock at a loss in your Schwab account, then bought the same stock again two weeks later in your E*Trade account. If you do that, you cannot count the loss on the initial sale against your capital gains.
Right now, identifying cross-broker wash sales takes an eagle eye. We’ll bring any automated solutions to your attention.
SCOTTRADE (http://www.scottrade.com) is launching its mobile trading app, and we got a sneak peek at a pre-release iPhone version. (Android and BlackBerry versions should be released simultaneously.)
The app is wrapped in the color I think of as “Scottrade purple”; those familiar with the firm’s Website will be comfortable immediately. Four icons at the top of the screen that let you switch between trading, account data, and research, plus a quick tap to return you to your Home view. The Home page displays market data and has links to real-time news.
You can trade stocks, exchange-traded funds and simple options, and enter some conditional orders as well. There is no complex options trading, though you can set up a one-triggers-another order.
The app brings real-time account and market data to your mobile device, including simple graphs that allow you to change the time frame. Lists of gainers and losers are in the “Markets” section of the Research tab. You can set up a watchlist, and view fundamental data on a stock as well.
There’s no mutual-fund trading in the app, but that’s not a function most investors need on a real-time basis anyway.
Published in Barron’s, July 11, 2011.