New Cost Basis Software Gives Investors Tax Treatment Options

December 04, 2012, 12:03 pm ET, BY Barry C.- Contributor| Editor: Thomas H. Kee Jr. (Follow on LinkedIn)

Tis the season to be jolly, but soon after the New Year it’ll be time to start thinking about a less cheerful topic: taxes. And for those investors who sold stocks during 2012, contending with the new cost basis reporting regulations and forms could be enough to drive them to the medicine cabinet for heartburn relief.

Cost basis reporting and their disparate requirements were enacted by the Economic Stabilization Act of 2008 and are being phased in through IRS regulations. The legislation that requires brokers to report their clients’ cost basis went into effect January 1, 2011; that requirement was only for securities sold after that date. But what about the millions of shares investors purchased before January 1, 2011, and sold in 2012?

Determining the cost basis of those shares could be a big headache – and have monumental tax ramifications. Take, for instance, the investor who began purchasing shares of General Electric (NYSE:GE) in 1977, made subsequent purchases in the intervening years, reinvested all dividends, and sold $50,000 worth of the stock in November 2012. Depending on the cost basis method used – FIFO, LIFO, HIFO, LOFO and LGUT – the options range from a long-term gain of more than $46,000 to a long-term loss of $81,000.

A less dramatic example involves the investor who started buying Walt Disney (NYSE:DIS) in 1985 and also sold $50,000 in shares during November 2012. He has the option to choose between long-term gain of $48,000 using LIFO or a long-term loss of more than $2,000 using HIFO.  A Philip Morris (NYSE:PM) investor who also sold $50,000 in shares during November can report a long term gain of about $49,000 or a long term loss of about $9,300. Research these stocks to see why there’s such a difference in tax treatment options.

Keep in mind that the default method of treating most stock sales is FIFO, which generally results in the highest reported capital gains.

Fortunately, new tax software is available that can determine cost basis of securities in a matter of minutes, taking into account reinvested dividends, stock splits, acquisitions and other corporate actions. Of course, not all cost basis software is created equal. In fact, a recent article in the CPA Journal encouraged investors and tax professionals to be discriminating when making their selection, making certain the tool they choose offers:

• The flexibility to coverall all possible transactions for a security
• The ability to reconcile a Form 1099-B with Form 8949 and even export it directly into a Schedule D, and
• The capability to cover securities historically.

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