Complexity of Cost Basis Reporting Requires Tax Expertise

I’m no fan of complexity, in taxes or any other area. But, as in most situations, there’s a silver lining.

Every new piece of legislation meant to simplify certain tax areas generally adds complexity of one sort or another to the Code. CPAs often refer to new tax legislation as an “Accountants Full Employment Act.”

A case in point is the cost basis reporting requirement, in place during this past tax season. While complicated enough by itself, the situation is exacerbated by differences in the requirements for brokers and investors.

Beginning on Jan. 1, 2011, it became mandatory for brokers and other financial intermediaries to report cost basis information on Form 1099-B to investors and to the IRS for equities acquired on or after that date. The new requirement, spelled out in the Emergency Economic Stabilization Act of 2008, also covers mutual funds acquired on or after Jan. 1, 2012, and will cover debt securities, options and private placements acquired after Jan. 1, 2014.

The rules take aim at the practice of deciding after the fact what stock was sold where an investor holds different lots of the same stock, each with a different cost basis. For example, an investor holds three lots, with a cost basis of $40 for the first lot, $60 for the second lot, and $100 for the third lot. If shares are sold for $90, the investor might decide at a later date which ones were sold, depending on what would be most advantageous to his or her tax situation: those with a high cost basis, creating a loss; those with a medium cost basis, creating a small gain; or those with a low cost basis, creating a larger gain.

However, when filing a completely revised Schedule D and new Form 8949, taxpayer-investors must rely on their brokers to supply accurate information on the Forms 1099-B.

“Unfortunately, retail investors are finding that they cannot reconcile the information on broker-provided 1099-Bs with their own Schedule D and 8949 calculations,” said Alexander Camargo, an analyst with Celent Securities & Investments Group. He and Isabella Fonseca, a research director in the same group, co-authored a white paper for NetWorth Services Inc., a Phoenix-based financial software company (see Cost Basis Reporting Means More Revenue for Tax Pros).

This lack of harmonization is the result of the disparity between what is required of brokers and what is required of investors. And it can lead to the opportunity for accountants to not only do some good, but generate additional revenue.

“I am actually surprised by what came out of the study,” said Nico Willis, chief executive of NetWorth Services. “Basically, the industry has changed. Tax professionals can no longer look to Form 1099-B as a source of reconciliation.”

Not only are broker-dealers making mistakes, more tax professionals have filed extensions for their investor clients than ever before, he indicated.

“Investors have to decide what they’re selling, and communicate it to the broker immediately,” said Stevie Conlon, senior director and tax counsel at Wolters Kluwer Financial Services. “You can’t do it later. You have to identify lots that were sold no later than the settlement date of sale.  Before this, people would look at the stock they had sold at the end of the year or at the end of every month and determine which were the best lots to have sold.”

This requires getting tax advice on a recurring basis, almost in real time, she advised. “That’s very different from an adviser’s normal involvement with a client at year end planning sessions and tax return time,” she said.

“Tax professionals need to take advantage of this,” said Willis. “According to the report, the profession as a whole can increase revenue by $450 million. CPAs are leaving money on the table.”

Or to put it another way, wherever there’s a challenge, there’s also an opportunity. And it’s the opportunity—and ability—to help clients meet those challenges that sets accountants apart.

For reprint and licensing requests for this article, click here.