Do you have a brokerage account? If so, you’ve probably received a mailing or call about a new tax law that takes effect this year. Let’s hope you didn’t ignore it.
Starting in 2011, after you sell a stock, your broker has to provide the Internal Revenue Service (IRS) with the investment’s cost basis. This is the price you paid to acquire an investment. It’s the starting point for determining, after you sell a stock, whether you had a profit or a loss.
In the past, the IRS had no way of knowing whether taxpayers were accurately calculating and reporting capital gains and losses correctly. Some studies showed the errors were resulting in a large amount of underpaid taxes.
Brokers must begin tracking acquisitions and subsequent sales of stocks, real estate investment trusts and foreign stocks starting in January 2011, but mutual fund companies and dividend-reinvestment plans don’t have to do so until January 2012. For individual bonds and options, the law doesn’t go into effect until January 2013. Other assets, such as exchange-traded funds, fall under more than one rule, depending on the type of asset.
The new rules apply only to the sales of investments purchased after these dates. So, for example, if next year you sell a stock you bought back in 2008, your broker doesn’t have to provide the IRS with the cost basis.
What does this mean for you?
Right now you should indicate how you want shares to be sold when you sell them.
FIFO (first-in, first-out), LIFO (last-in, first-out) or HIFO (highest-basis-in, first-out) are common options.
You may also let your broker choose for you, or decide on a case-by-case basis. But if you don’t tell your broker what to do, the law will choose for you – and it will usually choose FIFO.
The tax information in this article is merely a summary of our understanding and interpretation of some of the current laws and regulations and is not exhaustive. Investors should consult their tax counsel for advice and information concerning their circumstances.