March 2013

PFG investors can deduct theft losses on 2012 returns

March 31, 2013 | By: Robert A. Green, CPA

Good news: The CCC was successful in winning IRS Rev. Proc. 2009-20 tax relief for PFGBest customers. Read the important update on the CCC site. The IRS letter to the CCC states “…the PFGBest scheme qualifies as a ‘specified fraudulent arrangement’ within the meaning of Revenue Procedure 2009-20. Thus, investors who otherwise meet the requirements of Revenue Procedure 2009-20 may use the safe harbor, following the procedures as set forth in that revenue procedure.”

As the CCC points out, “It is not required that PFGBest victims use this procedure. It may not provide the best solution for your particular tax situation. Claimants in the PFGBest case are urged to consult their tax professionals as soon as practicable to determine if it is appropriate and wise to seek relief under the safe harbor deduction for theft losses.”

In this blog, I refer to IRS Rev. Ruling 2009-09 and Rev. Proc. 2009-20, and they are related to each other. Generally, a revenue ruling states the IRS position, whereas a revenue procedure provides return filing or other instructions concerning the IRS position.

PFG investors should use Rev. Proc. 2009-20 relief in 2012
In most cases, taxpayers are better off using this IRS Rev. Proc. 2009-20 “safe harbor” relief to deduct 95% of their net PFG theft losses in 2012 — the year of loss — with what effectively is like business ordinary loss treatment. Technically, it’s an unrestricted itemized deduction reducing taxable income dollar-for-dollar and that’s what counts most. Normally theft or casualty itemized deductions face lots of restrictions and limitations, including AMT, and state income tax limitations, too.

Many states limit itemized deductions and some (New Jersey) don’t allow them at all. Check to see if your state honors Rev. Proc. 2009-20 theft loss relief. But, that may not be enough. For example, New York State confirmed it accepts Rev. Ruling 2000-20 losses, but there are many state limitations that may apply (see below).

When it comes to deducting tax losses, consider the following: Limitations, AMT preferences, unutilized loss amounts, capital loss carryovers, wasted negative taxable income, and using the loss mostly at the lowest marginal tax brackets are inefficient ways of dealing with the loss. To get the most bang for your buck, you want to use the tax loss in full against income of any kind, as soon as possible, at the higher tax brackets on both federal and state tax returns.

Ideally, PFG futures traders — and some electing forex traders — can report their 2012 Form 1099 trading gains with lower Section 1256 60/40 tax rates or offsetting capital gains with capital loss carryovers. They can deduct their theft loss with business ordinary loss treatment.

Unless you are a business trader qualifying for trader tax status, Rev. Ruling 2009-09 and Rev. Proc. 2009-20 relief is probably the best tax treatment you can have since there are no capital loss limitations or Schedule A limitations (10% or 2% of AGI). Plus for investors, Rev. Ruling 2009-09 includes theft losses in net operating loss (NOL) treatment and even adds one year to the normal two-year carryback (and/or 20-year carry forward). Normally, you only get NOL treatment with trader tax status (business treatment). NOL treatment helps ensure you don’t have wasted losses with negative taxable income.

If you already sold your PFG bankruptcy claim, you can’t use Rev. Ruling 2009-09 relief, and you have a realized capital loss.

Some traders may want to skip it in 2012
Some business traders may be better off skipping Rev. Ruling 2009-09 “safe harbor” relief and using the default Section 165 business ordinary loss treatment. One problem is the loss may not be sustained until 2013 or 2014, as the trustee expects another 20% plus recovery of funds after 2012. But a Section 165(c)(1) business theft loss can be deducted from gross income (above the line) and that may help ensure better tax treatment on all fronts like AGI limitations, credits, state taxes and more. Also, consider that your Obama-era tax rates may be much higher in 2013 and 2014 vs. lower Bush-era tax rates in 2012. States are also raising taxes this year and next. The ObamaCare 3.8% Medicare surtax on unearned income started in 2013 and a Section 165 theft loss on an investment is a deduction against unearned income for this Medicare tax calculation. The difference in tax rates may be well over 10% on a combined basis and that’s meaningful. Saving state taxes is important if your state doesn’t allow Rev. Ruling 2009-09 losses.

When it comes to choosing between Rev. Ruling 2009-09 and other Section 165 loss alternatives, it’s important to understand exactly what you qualify for, how it relates to your status, and your income and loss otherwise in the related tax years. Crunch the numbers with an accountant in the know and make the right decision for you. Every taxpayer is different. File a 2012 extension to give yourself more time to see as well. You’ll know how 2013 is shaping up before the extension deadline.

How to deduct PFG theft losses in accordance with Rev. Proc. 2009-20
In accordance with Rev. Proc. 2009-20, plan on using the 95% theft loss deduction option, as few traders are part of a third-party lawsuit which would require the 75% loss option.

The PFG trustee recovered 30% of funds for futures traders in 2012. PFG futures traders may deduct 95% of their theft loss amount, and then must add back the 30% recovery. For example, if you lost $100,000, first take 95% of the loss amount ($95,000) and then add back the 30% recovery ($30,000), for a net theft loss deduction of $65,000. Report that theft loss on a 2012 Form 4684 as an itemized deduction without limitation (see further details below).

Unfortunately, forex traders had no money protection like segregation of funds for futures traders, and the trustee did not recover any funds for them in 2012. Forex traders may deduct 95% of their entire deposit lost. For example, if you lost $100,000, you can deduct $95,000 on Form 4684 without limitation.

We understand that some PFG retail forex and spot metals traders hired their own attorneys to represent their interests in the bankruptcy proceedings, versus the interests of futures account holders. They seek “customer account” status for retail forex and spot metals accounts in the bankruptcy proceedings, rather than potential unsecured creditor status. In our view, this is not a “third-party lawsuit”, so these PFG forex and metals traders can still deduct 95% of their theft losses under Rev. Proc. 2009-20.

Reports from the CCC indicate the trustee may recover an additional 20% to 30% of funds for futures traders and forex traders in 2013 or 2014, perhaps different amounts for different types of traders. If there is recovery of funds over the 5% amount not deducted in 2012, then you have gross income to report in the year of collection as a cash method taxpayer. If there is recovery of funds under the 5% amount reserved above, then you can have an additional Form 4684 deduction without limitation for that final loss amount.

Even if you have gross income in 2013 or 2014 subject to higher tax rates and perhaps Medicare tax on unearned income, it’s still a good deal for investors without trader tax status, as other Section 165 options are generally worse.

Rev. Ruling 2009-09 under the microscope
Here is a redacted and shortened version of Rev. Ruling 2009-09 with my comments as they apply to PFG losses.

Rev. Rul. 2009-9, IRC Sec(s). 165 Loss — theft loss; fraudulent investment scheme.
Cash-method taxpayer … in Ponzi-type scheme, IRS ruled that loss incurred was theft loss, not capital loss, and as it arose from transaction entered into for profit, it isn’t subject to limitations under Code Sec. 165(h). Guidance was also provided on timing and amount of deduction, possible application of extended NOL carrybacks for eligible small business investors …

My comment: A Madoff Ponzi scheme was broadened under the title “Ponzi-type scheme” to include a PFG-style theft or embezzlement loss. PFG CEO Russell Wasendorf was indicted for embezzlement in 2012 and that satisfies the criminal standard which is at the heart of Rev. Ruling 2009-09. In 2011, the IRS further modified this ruling to include a crook who commits suicide before his indictment for a crime. This ruling is all about accelerating the loss for a cash method taxpayer into the year it was discovered and the crime was decreed by a court. An accrual method taxpayer could accrue losses.

(1) Is a loss from criminal fraud or embezzlement in a transaction entered into for profit a theft loss or a capital loss under 165 of the Internal Revenue Code? – Answer, theft loss with full ordinary loss-type treatment.
(2) Is such a loss subject to either the personal loss limits in 165(h) or the limits on itemized deductions in 67 and 68? – Answer, no limits on Schedule A which would otherwise be the norm.
(3) In what year is such a loss deductible? – Answer, the year theft loss is discovered and crime decreed, and both happened for PFG in 2012.
(4) How is the amount of such a loss determined? – Answer, it’s laid out in Rev. Proc. 2009-20; 95% of net loss after recovery if no third-party lawsuit, 75% with third-party lawsuit.
(5) Can such a loss create or increase a net operating loss under 172? [/i]Answer, yes and the two-year carryback is expanded to three years. The 20-year NOL carry forward remains the same. [/i]
Sections 6 and 7 deal with complex mitigation beyond the scope of this article.

My comment: Redacted all as they relate to the Bernie Madoff investment management Ponzi scheme and PFG was very different for many traders. But the PFG CEO stole their money and he was indicted for embezzlement, a theft loss. The IRS letter to CCC acknowledged that most PFG traders did self-directed trading rather than engage PFG for investment management. The IRS appreciated the CCC’s point that Wasendorf lied about and stole the underlying account collateral, using some investors’ collateral to cover other investors’ collateral, and that is a Ponzi-type scheme.

Law and analysis
Issue 1. Theft loss.
Section 165(a) allows a deduction for losses sustained during the taxable year and not compensated by insurance or otherwise. For individuals, 165(c)(2) allows a deduction for losses incurred in a transaction entered into for profit…
For federal income tax purposes, “theft” is a word of general and broad connotation, covering any criminal appropriation of another’s property to the use of the taker, including theft by swindling, false pretenses and any other form of guile … The character of an investor’s loss related to fraudulent activity depends, in part, on the nature of the investment. For example, a loss that is sustained on the worthlessness or disposition of stock acquired on the open market for investment is a capital loss, even if the decline in the value of the stock is attributable to fraudulent activities of the corporation’s officers or directors, because the officers or directors did not have the specific intent to deprive the shareholder of money or property … In the present situation, B specifically intended to, and did, deprive A of money by criminal acts. B’s actions constituted a theft from A, as theft is defined for 165 purposes. Accordingly, A’s loss is a theft loss, not a capital loss.

Issue 2. Deduction limitations. 
… A’s theft loss is an itemized deduction that is not subject to the limits on itemized deductions.

My comment: I deleted the content showing how Section 165 works to significantly reduce loss deductions due to limitations on Schedule A and go right to the punch line above. You still need to use Form 4684 which feeds into Schedule A, but without limitations, it’s treated like an ordinary loss. That means you don’t reduce AGI, which otherwise would have been a good thing to do to reduce taxes in other areas of your tax return. For further guidance on how to deduct the loss on your tax return, follow Rev. Proc. 2009-20 to the letter of the law (see below).

Issue 3. Year of deduction. 
Section 165(e) provides that any loss arising from theft is treated as sustained during the taxable year in which the taxpayer discovers the loss. Under 1.165-8(a)(2) and 1.165-1(d), however, if, in the year of discovery, there exists a claim for reimbursement with respect to which there is a reasonable prospect of recovery, no portion of the loss for which reimbursement may be received is sustained until the taxable year in which it can be ascertained with reasonable certainty whether or not the reimbursement will be received, for example, by a settlement, adjudication, or abandonment of the claim.

My comment: MF Global was not declared a theft loss and it doesn’t qualify for Rev. Ruling 2009-09 “safe harbor” relief. The key is criminality. Some CCC members have wondered if MFG CEO and ex-Senator John Corzine has a get-out-of-jail card and Teflon-political status from criminal prosecution. MFG traders had to wait for the loss to be sustained by a court in January 2013.

A may deduct the theft loss in Year 8 the year the theft loss is discovered, provided that the loss is not covered by a claim for reimbursement or other recovery as to which A has a reasonable prospect of recovery. To the extent that A’s deduction is reduced by such a claim, recoveries on the claim in a later taxable year are not includible in A’s gross income. If A recovers a greater amount in a later year, or an amount that initially was not covered by a claim as to which there was a reasonable prospect of recovery, the recovery is includible in A’s gross income in the later year under the tax benefit rule, to the extent the earlier deduction reduced A’s income tax… Finally, if A recovers less than the amount that was covered by a claim as to which there was a reasonable prospect of recovery that reduced the deduction for theft in Year 8, an additional deduction is allowed in the year the amount of recovery is ascertained with reasonable certainty.

My comment: This shows how the gross income in a later year works. This shows the problem with Section 165 losses that don’t qualify for Rev. Ruling 2009-09 relief. Section 165 theft losses may be significantly limited on Schedule A, and then the recovery income is gross income without limitation in a subsequent year. That’s tax inefficient.

Issue 4. Amount of deduction. 

My comment: I deleted this section because it applies to the Madoff Ponzi-scheme. Madoff investors had to keep track on their investments over the years, their reported income and distributions. It all was part of the final accounting in Rev. Ruling 2009-09, as it was fraudulent over the years.

Most PFG self-directed traders have it easier because they did not engage PFG for investment management services. Look at your last monthly statement or better yet, the amount submitted to and confirmed by the bankruptcy trustee as your original theft loss amount. Reduce that amount by any amount later recovered by the trustee and paid to you.

If you started 2012 with $75,000 in your PFG account and had a trading gain of $25,000 before the bankruptcy, and no additions or withdrawals during the year, your trading account balance at the bankruptcy date should be $100,000. If it was a different amount, then account for the difference in your trading gain to be reported.

PFG traders should report their 1099 income or loss during 2012 up until the bankruptcy. The trustee sent 1099-Bs for Section 1256 contracts. We understand from a PFG forex client that he also received a 1099-B, which normally is not sent for spot forex, only forex forwards. Perhaps the trustee wants to make sure that all PFG traders report their income during the year.

Issue 5. Net operating loss. 
Section 172 allows as a deduction for the taxable year the aggregate of the net operating loss carryovers and carrybacks to that year. In computing a net operating loss, nonbusiness deductions of noncorporate taxpayers are generally allowed only to the extent of nonbusiness income. For this purpose, however, any deduction for casualty or theft losses allowable under 165(c)(2) or (3) is treated as a business deduction.

My comment: This is great news and one of the best parts of this safe harbor relief. Many PFG traders did not qualify for trader tax status/business treatment, so in accordance with Section 165, they couldn’t deduct their theft losses as a business loss in the year sustained. Normally, NOLs only are comprised of business losses, not capital losses and not itemized deductions.

Under 172, a net operating loss generally may be carried back two years and forward 20 years. However, under 172(b)(1)(F), the portion of an individual’s net operating loss arising from casualty or theft may be carried back three years and forward 20 years.

My comment: For casualty or theft losses, the carryback is increased to three years. But, the third year back (2009) was not a good income year for most traders, and that could mean using the NOL carryback at lower tax rates. Remember with NOLs, you can elect to forgo the NOL carryback and carry it forward 20 years instead. It might be better to apply the NOL in 2013 and 2014 against Obama-era tax hikes. The IRS said that capital loss carryovers can’t reduce unearned income, so we expect that NOL’s won’t either for purposes of the ObamaCare Medicare tax on unearned income.

To the extent A’s theft loss deduction creates or increases a net operating loss in the year the loss is deducted, A may carry back up to three years and forward up to 20 years the portion of the net operating loss attributable to the theft loss.

Rev. Proc. 2009-20 guidance
Excerpt from RIA: “A “qualified investor” using the Rev. Ruling 2009-09 safe harbor treatment must:

(1) mark “Revenue Procedure 2009-20” at the top of the Form 4684, Casualties and Thefts, for the tax return for the discovery year. The taxpayer must enter the “deductible theft loss” amount from line 10 in Part II of Appendix A of Rev Proc 2009 -20 on line 34, section B, Part I, of Form 4684 and shouldn’t complete the remainder of section B, Part I, of Form 4684;
(2) complete and sign the statement provided in Appendix A of Rev Proc 2009 -20 ; and
(3) attach the executed statement provided in Appendix A to the qualified investor’s timely filed (including extensions) federal income tax return for the discovery year.

My comment: We confirmed with IRS chief counsel that taxpayers can file an extension with no mention of Rev. Proc. 2009-09 losses or Rev. Proc. 2009-20, and execute the strategies mentioned here with their 2012 tax return filed before the extended due date of Oct. 15, 2013. That’s what is meant by “including extensions” above. Just make sure you file a “valid extension,” otherwise your extension is null and void.

By executing the statement provided in Appendix A of Rev Proc 2009 -20 , the taxpayer agrees not to:

(1) deduct in the discovery year any amount of the theft loss in excess of the deduction permitted under the rules;
(2) file returns or amended returns to exclude or recharacterize income reported with respect to the investment arrangement in tax years preceding the discovery year.”

State tax treatment
RIA excerpt: “Each state may treat these losses differently. New York, for example, has announced that it will recognize the safe harbor under Rev. Proc. 2009-20 for purposes of determining the amount of New York state itemized deductions for the theft loss. However, itemized deductions in New York are reduced for taxpayers with income in excess of certain thresholds (that is also the case for federal income tax purposes, but the IRS has explicitly excepted these losses from those reductions). And the NOL provisions permitted for federal purposes aren’t permitted for New York because the state allows NOL deductions only for losses attributable to a business, trade, profession, or occupation carried on in New York. The losses from a Ponzi-like fraudulent investment arrangement generally won’t qualify.”

Bottom line from Green
Deducting PFG losses is nuanced and complex. It’s important to understand Section 165 and Rev. Ruling 2009-09, read the CCC site PFG tax news, read our tax blogs, and then crunch the numbers with a good CPA who understands all these rules and different tax-filing scenarios and options. If used, apply Rev. Proc. 2009-20 to the letter of the law. What you should ultimately do is highly dependent on your overall income and loss and tax posture in perhaps a number of tax years. We are helping many new clients on PFG and MFG losses, so contact us for help soon.

In our green_button, we have a 2012 tax return example showing a PFG theft loss deduction in accordance with IRS Rev. Ruling 2009-09 and Rev. Proc. 2009-20. Notice the Schedule A (line 28) deduction without any limitation, coming from Form 4684 with worksheet, the footnotes and signature block. This example tax return reflects a $100,000 deposit loss, 95% loss calculation ($95,000), and after adding back the 30% recovery in 2012 ($30,000), the Form 4684 and Schedule A line 28 theft loss deduction is $65,000.

Caution, downloading securities Form 1099-Bs into TurboTax often leads to incorrect tax filings

March 4, 2013 | By: Robert A. Green, CPA

By Robert A. Green, CPA and Darren Neuschwander, CPA

April 10, 2013 postscript: A securities Form 1099-B often has an amount listed in box 5 “wash sale loss disallowed.” For an active trader, it’s typical to see a large number in box 5, but don’t be alarmed by that amount. The box 5 amount represents wash sale losses disallowed throughout the entire year. It’s not the amount of 2012 wash sale losses that are deferred to 2013, which amount is generally far less or even zero. This latter amount is what taxpayers are most interested in as it’s the amount that affects their tax liability. The box 5 number may count the same deferred wash sale loss over-and-over again as the wash sale loss is kicked down the road in active trading throughout the year. The same wash sale loss is added to cost basis over-and-over again, too. The box 5 amount is like the below example for “wash sale loss disallowed for the year.” 

March 12, 2013 postscript: We added new content under the heading “Potential wash sales” toward the bottom of the blog to better explain this term.

March 13, 2013 TradeLog Blog Tip: Important Functions for Option Traders

We were quoted on this topic in the Wall Street Journal article ”When Your Broker ‘Outs’ You” (Tax Report), By Laura Saunders (March 1, 2013). Excerpt: Check 1099-Bs for mistakes. Robert Green, an accountant who heads GreenTraderTax, a tax preparer for more than 1,000 investors, urges taxpayers to double-check brokerage cost-basis reports against their own records. “Often the 1099-Bs don’t match trading logs,” he says, especially for frequent traders. In some cases, he has seen income over- or understated by $10,000 or more. Problems arise most frequently with wash-sale reporting, he says. Investors subject to the new reporting should think twice before filing early, says Mr. Green’s partner, Darren Neuschwander. Last year, some clients received five corrected versions of the same 1099-B, he says. Early indications are there will be many corrected forms this year, too, he adds. 

Many taxpayers and tax preparers are taking a dangerous short cut on their 2012 tax return preparation. They are downloading brokerage firm “profit and loss” reports used to prepare securities Form 1099-Bs into TurboTax and other consumer tax preparation software programs. While this sounds like it would ease the tax preparation process and lead to better tax return accuracy, it’s actually a bad idea.

Securities 1099-Bs are apples and your tax return is oranges
Securities brokerage firm profit and loss reports and their Form 1099Bs are prepared by brokerage firm accountants and IT people to meet the brokerage firm’s tax compliance rules with the IRS. As it turns out, the IRS rules for taxpayers are very different from brokerage firm rules. Doesn’t that sound incredulous? Aren’t 1099s supposed to be tax information statements sent to clients and the IRS — statements taxpayers can rely on for their tax preparation? It turns out that is not always the case. While it is with Section 1256 contracts, W-2s and 1099-INT (interest), it’s not with 1099-Bs for securities. There were many errors on 2011 securities Form 1099-Bs; we are waiting to see if 2012 1099-Bs are better. Stay tuned for our updates coming soon.

How did this mess happen?
Before 2011, Form 1099-Bs for securities reported proceeds on equities to the IRS, and nothing else (including but not limited to cost-basis, wash sales and options). Lots of taxpayers conveniently omitted options and wash sale loss deferrals at year-end, and they overstated cost basis on appreciated stock received by gift where they need to use the donor’s cost basis.

In 2008, Congress instituted mandatory “cost-basis reporting” for brokers to implement on their 1099-Bs starting with 2011, with phase-in through 2014. Now brokers report a lot more tax information to the IRS, which will rein in the tax cheats. But where does that leave honest taxpayers who need to comply with these onerous cost-basis reporting rules written for tax cheats? Honest taxpayers are stuck between a rock and a hard place! They can either rely on 1099-Bs and potentially botch their taxable income/liability, or consider the 1099-B probably incorrect and report accurate taxable income. Even if brokers followed all the IRS rules, their 1099-Bs would in many cases be wrong for taxpayers because of apples and oranges in the rules. Shouldn’t these IRS rules be recalled and fixed?

Online brokers botched 1099-Bs in 2011
Full-service Wall Street bank brokers have handled realized gain and loss reports reasonably well for decades, but they did not account for wash sales in the past. They weren’t caught on their heels with the IRS cost-basis reporting rules. Even now, they still can’t calculate wash sales across multi-brokerage firm accounts.

But online brokers are struggling with IRS cost-basis reporting and many are still botching the rules. To be fair, we haven’t seen a large crop of 1099-Bs yet for 2012, but we aren’t expecting huge strides of improvement over 2011. We think many brokers are still going their own way with their IT people and we expect vastly different reporting and layout from different online brokers causing confusion for taxpayers and tax preparers.

Wash sales are one of the biggest culprits
One of the biggest causes of divergent reporting are wash sale losses. If you reenter trade 30 days before or after selling a trade at a loss, it’s a wash sale loss deferral. You need to report that wash sale on Form 8949 and also add it to the cost basis of the position that triggered the wash sale.

Brokers report wash sales based on “identical positions” on a “per account” basis. Due to the phase-in rules starting in 2011, many brokers only picked up wash sales on 2011 securities purchased, not wash sale deferrals carried over from 2010.

But the IRS requires taxpayers to calculate wash sales based on “substantially identical positions” which means between stocks and options, and options at different strike dates across all accounts in the tax identification number. Notice the glaring differences here. Identical positions vs. substantially identical positions and per account vs. across all accounts with the same id number. Taxpayers have a much broader universe to consider on wash sales and no one 1099-B can do that.

When you download into TurboTax, TurboTax doesn’t do it either. TurboTax merely relies on taxpayer input and downloads; it doesn’t calculate wash sales on its own. If the broker pushes bad 1099-B data into TurboTax and TurboTax runs with that data as is, where does that leave you, the taxpayer, on your proper tax compliance?

Substantially identical means between Apple stock and Apple options, including different strike dates. Apple stock and Google stock are not substantially identical. Its one symbol and the derivatives of that symbol, but even that’s not the full story.

Across all accounts with the same taxpayer identification number means the husband’s accounts, wife’s accounts, joint accounts and husband or wife’s IRA accounts. Many taxpayers still don’t know that an IRA can trigger a wash sale loss deferral in a taxable account, and that realized loss will be permanently lost. No broker can ever calculate wash sales across multiple brokerage accounts and they don’t even do it across various husband and wife accounts within their same brokerage firm. Wash sales aren’t always bad, though. A business trader with a capital loss limitation can convert a year-end 2012 wash sale loss deferral into an ordinary business loss on Jan. 1, 2013 by making a Section 475 MTM election for 2013.

File a correct 8949 and match the totals to 1099-Bs
Some clients want to download from their broker into TurboTax just to generate a Form 8949 with cost-basis reporting that will better match their 1099-B. They figure it will reduce the chance of audit or IRS questions. But that’s a problem for accuracy of taxable gain or loss. (The problem we are talking about is downloads of profit and loss reports, otherwise referred to as downloads of Form 1099-Bs. They are one in the same.)

We prefer to use TradeLog to handle all taxpayer rules correctly, including cost-basis reporting, downloading items not yet covered on 1099-Bs like options and much more. TradeLog downloads from brokers, but they download the actual trade history — the debits and credits matching trade confirmations on a trade date basis. TradeLog’s Form 8949 often has material differences with the 1099-B, so we enter an adjustment number so the Form 8949 totals match the 1099-B and it doesn’t awaken IRS computers. Our firm’s policy is we can’t rely on 1099-Bs for accurate tax information and we can’t rely on a TurboTax generated Form 8949. Some clients don’t like an adjustment number on Form 8949 with footnote explanation and they want to try the 1099-B download into TurboTax. In these cases, we run TradeLog too to point out differences.

Most brokers haven’t issued their 2012 1099-Bs
Most brokers have not yet issued their 2012 Form 1099-Bs for securities. They had to wait until the end of January to be certain about wash sale losses as Dec. 31, 2012, due to the 30-day rule. 1099-Bs should come late again this year and we expect many corrected 1099-Bs to be issued afterward as well. Brokers issued up to five corrected 1099-Bs for 2011 all the way up to the extended tax deadline of Oct. 15, 2012.

There is no “hard deadline” for when a corrected Form 1099-B must be issued. This IRS document (page 5) provides that “if you file a return with the IRS and later discover you made an error, you must correct it as soon as possible.”

In some cases, the securities 1099-B will be okay
In one case recently, we noticed a leading online broker did a better job on the 2012 1099-B than they did in 2011. They did wash sale calculations during the year and added wash sales to cost basis. There were no open wash sales at year-end 2012.

While the line-by-line reporting appeared reasonable — and it could be entered to a Form 8949 as such — the totals at the bottom could cause confusion and errors. The online broker showed total “wash sale loss disallowed” at the bottom of the 1099-B in the amount of $1.3 million. The realized gain and loss total showed a loss of $1.6 million. There was no guidance saying to combine all those numbers for the correct $300,000 loss for the year, and there were no open wash sale deferrals at year-end. Plenty accountants still use summary reporting (even though they should not), and these accountants could be confused with the above 1099-B totals.

TradeLog did a better job. It clearly showed the net $300,000 loss and no open wash sales at year-end. Its wash sale calculations were different during the year and that’s not an issue for this client because both the online broker and TradeLog got it right for the year overall.

For files with open wash sales and other issues, the minefield of problems just begins.

“Potential wash sales”
In our guides, blogs, videos and webinars we often use the term “potential wash sales.” For 2012 tax compliance, it’s more appropriate to paraphrase what one leading online broker writes on the bottom of its 2012 Form 1099-Bs: “total disallowed wash sale losses during the tax year.”

See the example under the heading “In some cases, the securities 1099-B will be okay” above. The Form 1099-B displays total wash-sale loss deferrals during tax year 2012 and labels it “wash-sale loss disallowed.” This total may be correct in that it adds up all wash-sale loss disallowances during the year, and the broker added wash-sale losses to cost-basis on subsequent or prior purchases within the 30-day window.

We think the large wash sale totals are deceiving to some accountants and taxpayers because brokers don’t explain it. For example, highly active traders could easily generate a total wash-sale loss deferral amount over $1 million on a small trading account. While the actual realized capital gain or loss might be small along with year-end wash sale losses, the total wash-sale loss disallowed during the tax year may be very high. In these cases, focus on the line by line details on the 1099-B and not the summary numbers.

Don’t believe us? Pin down your broker
Ask any online broker if they are willing to indemnify you for misreporting wash sales based on importing their Form 1099-B information. We would be shocked if they said they would. Ask them to give their answer in writing. They will confirm much of what we write above and lay off the tax compliance responsibility to you and your tax adviser. Well, we are your tax advisors and we just told you we have a big problem here!

Why are brokers encouraging their clients to use TurboTax to download their 1099-Bs? 
It’s a very simple answer: Brokers want clients to import their tax information rather than find unreconciled differences and potential errors through TradeLog or other software using trade history. This happened a lot in 2011 and clients overwhelmed the online brokers’ customer support lines asking for investigation and corrected 1099-Bs.

Some differences may be legitimate like corporate actions (i.e., stock splits), which TradeLog asks you to enter manually. Others are due to differences in the IRS cost-basis rules for brokers vs. clients. Other questions are about the confusing Form 8949 with covered, non-covered and other parts and boxes. Online brokers are working off tight margins with rock bottom commissions and they aren’t set up to handle this onslaught of questions on beefed up tax compliance.

Where does this leave you? 
Once again, on your own. Don’t take the short cut and download your Form 1099-Bs — with all its problems, differences and errors — into TurboTax or another consumer tax preparation solution.

Download trade history into TradeLog and consult with our TradeLog accounting experts when the results appear confusing. Run the TradeLog 1099-B reconciliation, show the gross reconciliation differences with 1099-B proceeds and cost-basis at the bottom of the Form 8949 and explain it all in the tax return footnote we provide on our blog and in Green’s 2013 Trader Tax Guide.

For all of these reasons, we are filing extensions for our securities traders. S-corporation extensions are due March 15, 2013 and individual and partnership extensions are due April 15, 2013. If you have any questions about this problem, visit our cost-basis reporting section, read Green’s Trader Tax Guide and consider a 30-minute consultation with Robert Green, CPA. You can also sign up for one hour of TradeLog accounting time with one of our TradeLog accounting experts.

Visit our cost-basis reporting section for more information.

Disclosure and disclaimer: 
TradeLog is a third-party software product owned by a third-party company Armen Computing Ltd. Green & Company, Inc. features TradeLog on its Website and is the number one reseller of TradeLog, for which it receives a sales commission. Green NFH, LLC CPAs prefer to use TradeLog because they want to be sure Form 8949 or Form 4797 is correct when they sign tax returns. While Green NFH, LLC CPAs and tax attorneys help Armen Computing with TradeLog, Armen Computing is the sole owner of TradeLog and is responsible for the product. Green NFH, LLC is working with TradeLog and other software companies to find a better solution to the problems laid out here.