The responsibility for reporting cost basis information on security transactions for tax purposes has historically fallen to the investor. However, that will change on January 1, 2011, when changes enacted in the federal tax law by the 2008 Emergency Economic Stabilization Act go into effect.
On January 1, 2011, the responsibility for reporting cost basis information shifts from the investor to a shared responsibility with broker-dealers and other U.S. financial services firms. Therefore, beginning with 2012 tax reporting, Pershing will provide U.S. taxable account investors, who sell securities (that were acquired and sold in 2011) with IRS 1099-B forms reporting the proceeds from the sales, the amount of gain or loss on the sales, cost basis, holding period and other information.
Pershing has developed a comprehensive cost basis reporting strategy to ensure that its customers are prepared. Pershing will report the cost basis of securities that investors buy starting January 1, 2011 and then sell in order to comply with the new tax rules. Since the cost basis information will be reported to the IRS on investors’ IRS Forms 1099-B, that should save you and your clients time and research when preparing investors’ annual tax returns.
A Challenge—and an Opportunity
The changes to the tax rules are designed to maximize accuracy in the reporting of capital gains which the IRS estimates are underreported to the tune of $11 billion a year.
The upside for investors and you is that the new tax rules could provide an opportunity for you to open a new dialogue with your clients about the tax implications on their overall investment strategy and goals—and to provide referrals to qualified accountants and tax experts.
It Won’t All Happen at Once
The rules will not apply to 2010 transactions, nor will all securities be affected from day one. Rather, the new tax rules will be phased in over a three-year period as follows:
- January 1, 2011—stocks, including domestic and foreign stocks, American Depository Receipts, real estate investment trusts (REITs) and exchange-traded funds (ETFs) that are taxable as corporations (ETFs in this category typically are treated as mutual funds)
- January 1, 2012—mutual fund and dividend reinvestment plan (DRP) shares
- January 1, 2013—all other remaining securities, including options, fixed income instruments and debt instruments
Reach Out to Your Clients
Although the regulations primarily affect U.S. broker-dealers and certain other financial services firms, including Pershing, they will certainly impact your U.S. clients with taxable accounts.
Therefore, the time for investors to gear up for the cost basis reporting change is now. Waiting until April 15, 2012 to bring your clients up to speed and to put the requisite processes in place is not a viable option.
One change that many investors may not be aware of involves the requirement that they select a cost basis determination method and/or tax lot(s) selection for each trade before it settles. In other words, your clients will no longer be able to defer these decisions until the end of the tax year. Investors should carefully consider their tax lot(s) selection since, after the settlement date, no changes will be permitted. Your clients will now need to contact you, as his or her investment professional to choose the tax lot and disposition method on a trade or other security transaction by settlement date. This must happen by settlement date unless they have provided adequate standing instructions prior to the trade or previously authorized you to make these decisions for them and you act in a timely manner.
There are several acceptable accounting methods that can be used to identify specific tax lots, including high cost, low cost, and last-in, first-out (LIFO), among others. Unless you instruct otherwise, your clients’ default accounting method for reporting cost basis of securities that are bought, sold, transferred or exchanged will become “first-in, first-out” (FIFO) starting January 1, 2011. (Pershing will use the federally required FIFO as the account default method.)
A Wide Range of Resources from Pershing
A listing of all Pershing tools and instructional materials related to the new cost basis rules can be easily accessed in the NetX360™ Communications Center. These are already proving invaluable to help Pershing customers address the new requirements—and to educate their clients as well. New communications, including Executive and Operations Updates, are continually added.
Among the current offerings, you will find:
- Understanding the New Cost Basis Reporting Regulations: A User’s Guide to the New Tax Rules, How They Work and Their Potential Impact on Your Business and Clients
- Monthly webcasts covering the new rules in detail, as well as Pershing’s compliance initiatives. Replays are available in the Communications Center in NetX360.
- Expanded NetX360 cost basis training, including instructions on how the cost basis requirements have impacted Pershing technology and enhancements Pershing has made in response to the new rules. For a listing of upcoming training events and registration information, visit Pershing’s e-Learning Calendar in NetX360.
Pershing has invested heavily to enhance its NetX360 platform to ensure a smooth transition to the new cost basis regulations—for you and your clients.