Category: Cost-Basis Reporting

Don’t Solely Rely On 1099-Bs For Wash Sale Loss Adjustments

January 5, 2016 | By: Robert A. Green, CPA

Click to read Green's blog post: Wash Sale Loss Adjustments Can Be A Big Tax Return Headache

Click to read Green’s blog post: Wash Sale Loss Adjustments Can Be A Big Tax Return Headache

Broker-issued Form 1099-Bs for securities provide cost-basis reporting information, but they don’t provide taxpayers everything they need for tax reporting if the taxpayer has multiple trading accounts or trades equities and equity options.

Brokers calculate wash sales based on identical positions (an exact symbol only) per separate brokerage account. But the wash sale loss rules for taxpayers, Section 1091, requires taxpayers to calculate wash sales based on substantially identical positions (between equities and equity options and equity options at different exercise dates) across all their individual accounts including IRAs — even Roth IRAs.

The best accounting solution for generating a correct and compliant Form 8949 is trade accounting software that’s compliant with Section 1091. Don’t just rely on a Form 1099-B (exception: if there is only one brokerage account, the trading is only in equities, not equity options and there are no cost-basis adjustments including wash sale losses).

Many tax preparers and taxpayers continue to disregard Section 1091 rules, even after acknowledging differences with broker 1099-B rules. They do so at their peril if caught by the IRS.

Securities accounting is challenging
Securities brokers are making advances in tax-compliance reporting. It’s due to Congressional legislation and implementation of IRS cost-basis reporting regulations for which phase-in commenced in 2011. Phase-in is almost complete: Equity option transactions and simple debt instruments acquired on January 1, 2014 or later were reported for the first time on 1099-Bs for tax year 2014. The only cost-basis reporting item remaining to be phased-in is reporting complex debt instruments starting on January 1, 2016 or later. Tax-year 2015 1099-Bs should be the same as in 2014.

Taxpayers report proceeds, cost basis, wash sale loss and other adjustments, holding period and capital gain or loss – short term vs. long-term (held over 12 months) on Form 8949. According to the form’s instructions, taxpayers without wash sale and other adjustments to cost-basis may simply enter totals from broker 1099-Bs directly on Schedule D and skip filing a Form 8949. After all, the IRS gets a copy of the 1099-B with all the details.

But this Form 8949 instruction leads many taxpayers and tax preparers astray with taxpayers thinking they don’t have wash sales when in fact they do have many to report in compliance with IRS wash sale rules for taxpayers, which differ from IRS rules for brokers.

Form 8949 problems: apples vs. oranges with 1099-Bs
In accordance with IRS rules for brokers, a 1099-B reports wash sales per that one brokerage account based on identical positions. The wash sale rules are different for taxpayers, who must calculate wash sales based on substantially identical positions across all their accounts including joint, spouse and IRAs. With different rules for brokers vs. taxpayers (apples vs. oranges), it’s expected that in many cases broker-issued 1099-Bs might report different wash sale losses than a taxpayer must report on Form 8949. A broker may report no wash sales when in fact a taxpayer may have many wash sale losses. A taxpayer may permanently lose a wash sale loss between a taxable and IRA account, but a broker will never report that on a 1099-B. In some cases, a broker can report a wash sale loss deferral at year-end, but the taxpayer may have absorbed the wash sale loss in another account, thereby eliminating this tax problem at year-end.

This problem of different rules on wash sales for brokers vs. taxpayers is still widely unknown by many taxpayers and tax preparers. Far too many continue to omit Form 8949 or file an incorrect Form 8949 relying solely on broker 1099-B reporting when they should be using securities trade accounting software to properly calculate and report wash sale loss adjustments.

A predicament for some tax preparers who do understand the problem is that calculating wash sales correctly leads to un-reconciled differences between Form 8949 and 1099-Bs. Some tax preparers don’t want to draw attention to those differences, fearing IRS notices generated from IRS 1099-B automated matching programs. It’s ironic that the mission of Congress in cost basis legislation was to “close the tax gap” providing more opportunities for matching 1099-Bs, but it may lead to a mess of un-reconciled differences. To better close the tax gap, Congress should realign broker and taxpayer wash sale rules to be the same.

There is one scenario where a taxpayer can solely rely on a 1099-B and skip filing Form 8949 by entering 1099-B amounts on Schedule D: when the taxpayer has only one brokerage account and trades equities only with no trading in equity options, which are substantially identical positions. Plus, the taxpayer must not have any wash sale loss or other adjustments. In that narrow case, there are apples vs. apples — only one account and substantially identical is the same as identical.

This problem of apples vs. oranges is biggest for individuals who tend to have multiple accounts. There is a solution for traders who qualify for TTS. Trade in an entity and elect Section 475 MTM, which is exempt from wash sale rules. Keep investment accounts with far less wash sale loss activity on the individual level.

Section 1091 wash sale rules
Per IRS Publication 550: A wash sale occurs when you (a taxpayer) sell or trade stock or securities at a loss and within 30 days before or after the sale you:

  • Buy substantially identical stock or securities,
  • Acquire substantially identical stock or securities in a fully taxable trade,
  • Acquire a contract or option to buy substantially identical stock or securities, or
  • Acquire substantially identical stock for your individual retirement account (IRA) or Roth IRA.

Wash-sale rules differ between brokers and taxpayers
IRS regulations require brokers to calculate and report wash sales per account based on identical positions (it’s reiterated in Form 1099-B instructions). Here is an example of broker rules: an account holder sells 1,000 shares of Apple stock for a loss and buys back 1,000 shares of Apple stock 30 days before or 30 days after. That’s a wash-sale loss deferred (added) to the replacement position cost-basis. But, if the account holder buys back Apple options instead of Apple stock, according to broker rules it’s not a wash sale because an option is not “identical” to the same company’s stock. Broker computer systems are programmed to calculate wash sales based on an identical symbol, and stock and options and options at different exercise dates have different symbols.

IRS regulations for Section 1091 require taxpayers to calculate wash sales based on “substantially identical” positions. That’s very different from the rule for brokers that require “identical” positions. This can be a big problem or challenge for active traders who trade stocks and options, or just options but with constant changes in exercise dates. Starting in 2014, 1099-Bs included equity options for the first time.

Many brokers report “disallowed wash sales for the year” on 1099-Bs rather than “actual wash sales” at year-end. This causes confusion and anxiety for many taxpayers, who draw the wrong conclusion and may think they have a huge problem at year-end, when they may not. The “disallowed wash sales for the year” number may count the same wash sale over and over throughout the year. What counts more is what wash sales are deferred at year-end, and what ones were permanently lost to IRA accounts.

Don’t get into trouble with the IRS
Many traders and local tax preparers who are not that savvy to the wash sale rules may leap to import 1099-Bs into TurboTax or choose to enter totals directly on Schedule D, omitting Form 8949, but they will probably not comply with Section 1091. In effect, they are using broker rules and unknowingly or willfully disregarding Section 1091. While tax preparers may be covered for malpractice, they will have Circular 230 penalties and ignorance is not an acceptable excuse.

Consider a Section 475 election
Business traders qualifying for TTS are entitled to elect Section 475 mark-to-market (MTM) accounting elected on a timely basis, which exempts them from wash sale loss adjustments and the capital loss limitation. Section 475 business trades are not reported on Form 8949; they use Form 4797 Part II (ordinary gain or loss). Although Section 475 extricates traders from the compliance headaches of Form 8949, it does not change their requirement for line-by-line reporting on Form 4797. We recommend trade accounting software to generate Form 4797. If you elect Section 475, you’ll need that software to calculate your Section 481(a) adjustment, too. (Learn more about the Section 481(a) adjustment in Green’s 2016 Trader Tax Guide Chapter 2.)

Accounting software and services for traders
When it comes to a trading activity, it’s wise to do separate accounting for trading gains and losses vs. expenses. A consumer off-the-shelf accounting program is fine for keeping track of expenses, non-trading income, home office deductions and itemized deductions. But when it comes to trade accounting for securities, these programs are inadequate — you need a specialized securities trade accounting program and/or accounting firm, or in limited cases brokerage firm reporting may be sufficient. On our Website accounting services page, learn more about trade accounting software. Choose our professional accounting service using this software.

Futures accounting isn’t required, as you can rely on the tightly controlled one-page 1099-B with summary reporting, using MTM reporting. Although spot forex accounting could be a nightmare if you try to do it yourself, you can rely on the broker’s annual tax reports and should use summary reporting. Spot forex is not a “covered security,” so there are no Form 1099-Bs.


Frequently Asked Questions (FAQs) On Trader Tax

February 19, 2015 | By: Robert A. Green, CPA

How are securities taxed?
Securities traders need to watch out for higher tax rates, wash sales, capital-loss limitations and accounting challenges. Realized transactions in securities are reported trade by trade (or line by line) on Form 8949, which feeds into Schedule D where short- and long-term capital gains rates apply. Click here to see what’s included in securities and to learn more. Visit the Tax Treatment section for tax guidance on all sorts of trading instruments.

How should I handle wash sales on securities?
See our separate FAQs on wash sale losses.

How are Section 1256 contracts taxed?
Section 1256 contract traders enjoy lower 60/40 tax rates, summary reporting, and no need for accounting. (The 60/40 rates mean 60% is taxed at the lower long-term capital gains rate and 40% is taxed at the short-term rate, which is the ordinary tax rate.) Section 1256 contracts are marked-to-market (MTM) on a daily basis and reported on Form 6781. MTM means you report both realized and unrealized gains and losses at year-end. Click here to see what’s included in Section 1256 contracts and to learn more.

What is Section 475 and can that election help me?
Section 475 MTM allows qualifying business traders to deduct trading losses in the current tax year as ordinary business losses, without capital loss limitations or wash sale loss adjustments. Short term capital gains are taxed at the ordinary rate, so taxes are the same on trading gains, but Section 475 is much better on trading losses — we call it “tax loss insurance.” GreenTraderTax recommends Section 475 for securities, but not for Section 1256 contracts where you would otherwise forgo lower 60/40 tax rates. Click here to learn more about Section 475.

Can you request a 1099B based on using Section 475?
Brokers are supposed to prepare Form 1099Bs for the everyman, not based on a taxpayer’s election or other facts and circumstances. How can a broker know for sure that a trader elected Section 475 on time and or is entitled to use Section 475, which is conditional on qualifying for trader tax status?

Can I deduct my trading-related expenses on my tax return?
Deductibility is based on tax status: whether you qualify for trader tax status (business treatment) or must use the default investor tax status (investment treatment).

Individual investors are permitted to deduct Section 212 investment expenses related to the production of investment income. Investment expenses exclude home-office, education, and Section 195 startup costs. There are many limitations for investment expenses, deductible as miscellaneous itemized deductions on Schedule A including the 2% AGI threshold, Pease limitation, listed property rules, and AMT preferences.

Business traders qualifying for trader tax status are able to deduct all trading expenses, including home office, education, and Section 195 startup costs, from gross income. Sole proprietor traders report business expenses (only) on Schedule C, and trading gains and losses are reported on other tax forms. An election is not required for claiming business expense treatment. Click here to learn how to qualify for trader tax status. Click here to learn more about business expense treatment.

Are brokerage commissions tax deductible?
Yes, but they are not separately stated tax deductions. Rather, commissions are part of your trading gain or loss — an adjustment to proceeds and cost-basis.

Do I need to fill out a Form 8949 for my securities trades?
Casual investors might have no wash sale adjustments or other cost-basis adjustments and just one securities brokerage account with a few equity transactions. They may qualify to attach their 1099B and skip inclusion of a Form 8949. Active traders won’t qualify for this short cut.

The cost-basis rules are almost fully phased in. Options and less complex fixed income securities acquired on Jan. 1, 2014 or later are reportable for the first time on Form 1099-Bs for 2014. Click here to learn more about IRS cost-basis reporting and Form 8949.

Where can I learn more about trader tax matters, including entities, retirement plans, Obamacare taxes, compliance tips, and more?
In Green’s 2015 Trader Tax Guide.

I prepared these FAQs for an online broker catering to active securities traders. 

 


Frequently Asked Questions (FAQs) On Wash Sale Losses

| By: Robert A. Green, CPA

Wash sale losses are a major source of confusion for taxpayers and brokers come tax time, so we answered several FAQs to help.

What’s the best solution for reporting wash sale losses correctly?
Trader tax accounting software that downloads all purchase and sale transaction history and calculates wash sale losses according to taxpayer rules recapped below. In most cases, taxpayers can’t solely rely on 1099Bs or broker profit and loss reports for reporting wash sales. GreenTraderTax recommends software to calculate wash sales across all your accounts and for generating a correct Form 8949. You need to reconcile Form 8949 to 1099Bs and explain the differences as best you can. Click here to learn about GreenTraderTax’s accounting service for securities traders.

What are wash sale losses?
Per IRS Pub. 550, “A wash sale occurs when you sell or trade stock or securities at a loss and within 30 days before or after the sale you: buy substantially identical stock or securities; acquire substantially identical stock or securities in a fully taxable trade; acquire a contract or option to buy substantially identical stock or securities, or acquire substantially identical stock for your individual retirement account (IRA) or Roth IRA.”

The IRS wash sale loss rules (Section 1091) are written to protect the U.S. Treasury against taxpayers taking “tax losses” at year-end to lower tax bills while they get right back into the same positions. The IRS views that as a tax loss but not an economic loss and much of the tax code prevents that from happening.

Wash sale loss adjustments defer losses to the subsequent tax year, where a taxpayer hopefully can utilize that loss. However, if you trigger a wash sale loss with an IRA, you permanently lose the wash sale loss.

Do I have to account for wash sale losses?
Yes, if you trade securities including equities, equity options, ETFs, narrow-based indices (made up of nine or fewer securities), and bonds. Click here to learn more about securities.

What’s exempt from wash sale losses?
Wash sales do not apply to Section 1256 contracts including futures, broad-based indices, and options on futures since they are marked-to-market (MTM). That’s economic reporting and there’s no way to defer wash sale losses. Click here to learn more about Section 1256 contracts.

Business traders with a Section 475 MTM election are exempt from wash sale loss reporting on their business trading positions. Consider a timely 2015 Section 475 election to convert 2014 wash sale loss deferrals on business positions into ordinary losses on Jan. 1, 2015. Click here to learn more about Section 475. Existing individuals and partnerships must file a Section 475 election by April 15 and S-Corps by March 15.

Where do I report wash sale loss adjustments?
Report wash sale loss adjustments on Form 8949 (instructions), along with other cost-basis reporting. Learn more about cost-basis reporting in the Green Trader Tax Center.

Do brokers report wash sale loss adjustments on Form 1099B?
Yes, but in compliance with IRS rules for brokers which differ from IRS rules for taxpayers. In most cases, taxpayers need to do additional work on wash sale loss reporting.

How do broker and taxpayer rules differ on wash sales?
Brokers calculate wash sales based on identical positions (an exact symbol only) per brokerage account. Section 1091 requires taxpayers to calculate wash sales based on substantially identical positions (between stocks and options and options at different exercise dates) across all their accounts including IRAs — even Roth IRAs.

What is a substantially identical position?
Apple stock and Apple options are substantially identical, but Apple stock and Google stock are not substantially identical.

Are options subject to cost-basis reporting and wash sale loss adjustments?
Yes, IRS cost-basis reporting rules phased-in options purchased on or after Jan. 1, 2014. Brokers won’t report a wash sale loss between a stock and an option, but taxpayers must do so. Options at different expiration dates have different symbols, so they are considered substantially identical.

Can I rely on my 1099-B for reporting wash sale loss adjustments?
Only if you have one brokerage account trading equities. If you trade stocks and stock options, or just stock options and/or have multiple brokerage accounts, you can’t rely on brokerage firm Form 1099-Bs for reporting wash sale losses correctly because there will be differences in application of taxpayer rules on substantially identical positions.

Are brokerage firm profit and loss reports similar to 1099Bs?
Yes, brokers use the same accounting for the 1099B and their profit and loss reports. When brokers suggest downloading a 1099B into TurboTax, they really mean downloading their profit and loss report. Those P&L reports account for wash sales based on broker rules, not taxpayer rules.

Do I have to worry about my IRA accounts in my wash sale loss calculations?
Yes, as recapped in IRS Pub. 550 above, Section 1091 includes all types of IRAs. It’s a catastrophic mistake to trigger a wash sale loss in your IRA since you will never get that tax loss benefit as it won’t reduce distributions in retirement for a traditional IRA. It’s wise to avoid trading substantially identical positions between an IRA and your taxable accounts.

What accounts are included in the wash sale loss analysis?
It goes by taxpayer identification number. If you are married filing joint, make sure to include each spouse’s separate, joint, and IRA accounts.

Are entity accounts included in the wash sale loss analysis?
Maybe. Although Section 1091 rules do not include your entity accounts, Section 267 related party rules can drag your entities into the wash sale loss analysis. Case law can apply Section 267 related party transaction rules in the event a trader plans to avoid a wash sale loss between his entity and individual accounts. If the related party transaction “is purely coincidental and is not prearranged” Section 267 law does not apply. If Section 267 applies it can lead to wash sale loss deferral or losing the wash sale loss permanently. 

Where can I learn more about wash sales?
Read the GreenTraderTax blog “How will you handle wash sale losses on securities this tax season?” and watch the related Webinar recording.

I prepared these FAQs for an online broker catering to active securities traders. 


How Will You Handle Wash Sale Losses On Securities This Tax Season?

January 23, 2015 | By: Robert A. Green, CPA

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If you actively trade equities and equity options and or securities in more than one account, unless you use proper software on all your individual taxable and IRA accounts, you will probably handle wash sales wrong and under-report or over-report your taxable income. In these cases, you can’t solely rely on 1099-B reporting because brokers use a different set of tax compliance rules than taxpayers in calculating and reporting wash sale losses.

The IRS cost-basis reporting saga continues
Accounting for trading gains and losses is the responsibility of securities traders; they must report each securities trade and related wash-sale adjustments on IRS Form 8949 in compliance with Section 1091, which then feeds into Schedule D (capital gains and losses). Form 8949 came about after the IRS beefed up compliance for securities brokers starting in 2011, causing headaches, confusion and additional tax compliance cost. Congress found tax reporting for securities to be inadequate and thought many taxpayers were underreporting capital gains. The cost-basis rules are almost fully phased-in. Options and less complex fixed income securities acquired on Jan. 1, 2014 or later are reportable for the first time on Form 1099-Bs for 2014. Inclusion of complex debt instruments on 1099-Bs is delayed until Jan. 1, 2016.

Broker-issued securities Form 1099-Bs provide cost-basis reporting information, but they often don’t provide taxpayers what they need for tax reporting. For example, brokers calculate wash sales based on identical positions (an exact symbol only) per separate brokerage account. But Section 1091 requires taxpayers to calculate wash sales based on substantially identical positions (between stocks and options and options at different exercise dates) across all their accounts including IRAs — even Roth IRAs.

Taxpayers report securities proceeds, cost basis, adjustments, holding period and capital gain or loss – short term vs. long-term (held over 12 months) on Form 8949. According to the form’s instructions, taxpayers without wash sale and other adjustments to cost-basis may simply enter totals from broker 1099-Bs directly on Schedule D and skip filing a Form 8949. After all, the IRS gets a copy of the 1099-B with all the details.

But, there is a protracted ongoing problem for many taxpayers with securities sales. For 2014 tax reporting, many 1099-Bs may not report wash sales or other cost-basis adjustments leading taxpayers or their tax preparers to choose the short-cut option: to enter totals on Schedule D and omit the headache of preparing a Form 8949. But, we know very well that taxpayers are supposed to calculate wash sales differently from brokers, and there could be wash-sale adjustments that taxpayers should make on Form 8949, which probably changes the net capital gain or loss amount.

Section 1091 wash sale loss rules for taxpayers
Per IRS Publication 550: A wash sale occurs when you sell or trade stock or securities at a loss and within 30 days before or after the sale you:

  • Buy substantially identical stock or securities,
  • Acquire substantially identical stock or securities in a fully taxable trade,
  • Acquire a contract or option to buy substantially identical stock or securities, or
  • Acquire substantially identical stock for your individual retirement account (IRA) or Roth IRA.

An example of how wash-sale rules differ between brokers and taxpayers
IRS regulations require brokers to calculate and report wash sales per account based on identical positions (it’s reiterated in Form 1099-B instructions). Here is an example of broker rules: an account holder sells 1,000 shares of Apple stock for a loss and buys back 1,000 shares of Apple stock 30 days before or 30 days after in that same account. According to the 1099-B, that’s a wash-sale loss deferred (added) to the replacement position cost-basis. But, if the account holder buys back Apple options instead of Apple stock, according to broker rules it’s not a wash sale because an option is not “identical” to the same company’s stock – however the taxpayer must report it as a wash sale. Broker computer systems are programmed to calculate wash sales based on an identical symbol, and stock and options and options at different exercise dates have different symbols. In that same example, if the taxpayer bought back Apple stock in a separate account, including an IRA, the broker would not treat it as a wash sale, but according to Section 1091, the taxpayer must treat it as a wash sale.

Don’t assume that substantially identical positions are worse for wash-sale calculations; they could actually be better. Subsequent transactions with profit can absorb prior wash sales before year-end, which can fix a wash-sale problem. So a gain on an option can absorb a wash-sale loss on a stock. Note that Apple stock and Apple options are substantially identical, but Apple stock and Google stock are not substantially identical.

Ways to avoid Form 8949
Business traders qualifying for trader tax status are entitled to elect Section 475 mark-to-market (MTM) accounting elected on a timely basis. Section 475 business trades are not reported on Form 8949; they use Form 4797 Part II (ordinary gain or loss). Although Section 475 extricates traders from the compliance headaches of Form 8949 (and Section 475 trades are exempt from wash sale rules), it does not change their requirement for line-by-line reporting on Form 4797.

Form 8275-R disclosure
If you or your local tax preparer decide to cut corners and disregard Section 1091 taxpayer rules for calculating wash sales across all accounts based on substantially identical positions — choosing instead to rely on broker 1099-B reporting in spite of known broader wash-sale conditions (explained in Chapter 4) — then you need to “disclose items or positions that are contrary to Treasury regulations” on Form 8275-R included with your tax return filing. We asked a leading malpractice-insurance carrier for tax preparers about this issue and they said, “there is coverage for regulatory inquiries but not if the firm is investigated for preparer penalties.” Whether you knowingly or ignorantly cut corners relying on 1099-Bs for active securities traders, it’s a circular 230 infraction and ignorance is not an excuse. Use our guides and suggestions to do it right.

Software for wash sales
When you consider a securities trade accounting software and Web-based solution, ask the vendor if they calculate wash sales based on Section 1091 and if not, you may want to skip that solution.

TurboTax ads say they make taxes simple and they imply you can just import your 1099-B. You’ll spend a lot of time finding their small fine print about having to make Section 1091 adjustments on your own.

Don’t tackle this minefield on your own, get professional help
Every case is different and our CPAs will look for ways to work with what you provide us, and in some cases, we can make manual adjustments. For example, if you don’t have open wash sales at year-end, we may be able to find ways to generate proper tax forms using 1099Bs, broker tax reports, and software solutions that you provided to us. Green NFH also offers a securities trade accounting service using proper software to be fully compliant with Section 1091.

We used several excerpts from Green’s 2015 Trader Tax Guide for this blog. 


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 documenthttp://www.irs.gov/pub/irs-pdf/i1099gi.pdf (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 GreenTraderTax.com 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. 


Cost-Basis Reporting Problems and Solutions

November 20, 2012 | By: Robert A. Green, CPA

If you trade or invest in securities, you need to learn about “cost-basis reporting,” a new set of IRS rules for taxpayers starting with 2011 tax filings. Previously, taxpayers could simply enter their capital gains and losses (proceeds, cost basis and holding period) onto Schedule D of their individual income tax return. That’s no longer allowed, so 2011 and 2012 tax returns are proving to be a challenge.

Under the new cost-basis reporting regime, taxpayers must decipher broker-provided Form 1099-Bs. In tax years prior to 2011, taxpayers and their accountants could easily use a Form 1099-B to enter proceeds from each securities sale on their Schedule Ds. Taxpayers then entered their own record of cost-basis information and they were finished. Investors often looked up the original purchase price in an earlier brokerage statement and considered stock splits or other corporate actions, which are rare. Active traders generally used software like TradeLog, which downloaded all trade executions and provided an easy-to-use Schedule D-1 attachment.

You would think that when brokers entered the picture providing cost-basis information to taxpayers and the IRS on Form 1099-Bs, taxpayer compliance would be easier. You would be very wrong! (I explain this problem in an interview for MoneyShow.com: “Tax Flubs That Can Cost You Thousands“.)

Take one look at your 2011 Form 1099-B and you will see the problem. While stock proceeds may look the same as prior years, the new cost-basis information is extremely confusing. Some brokers mark cost information with quirky new codes like P (provided to the IRS), N (not provided to the IRS) and W (wash sales). Some brokers do not provide totals for the amounts they are reporting. Plus there are covered securities, non-covered securities and other. All individual trades must be entered on the new 2011 tax form 8949, which includes Parts A (proceeds and cost basis both reported to the IRS), B (proceeds reported to the IRS but not cost basis) and C (other or not reported on a 1099). Separate Form 8949s must be filed for short term and long term. Add it up: That’s up to six different categories on the Form 8949s instead of the single Schedule D required in the past. This is a huge burden and is very confusing for taxpayers.

That’s just a fraction of the problem. Many brokers are using back-office accounting solutions that may botch wash-sale reporting, since they have not focused on it much in prior years, and some are omitting 2010 wash sale cost basis deferred into 2011. Also, most brokers rushed 1099-Bs to the printer before doing an end-of-January wash-sale calculation. In addition, the rules brokers are required to follow for 1099-B reporting are different from the rules for taxpayers: Most brokers report wash sales between “identical positions” (the same symbol only), whereas taxpayers are required to report wash sales between “substantially identical positions” (such as between stocks and options). How can the IRS ask brokers and taxpayers to report wash sales differently? Even if brokers get everything right, broker-provided wash sales would still be wrong because they only report wash sales in one account, whereas a taxpayer must report them across all taxable accounts, including IRAs.(For more details, see our March 20 blog.)

Using a 1099-B for wash sale reporting is a big mistake. IRS cost-basis reporting rules state that taxpayers should not rely on 1099-Bs for tax reporting purposes. What? (Read more about this concept on our Aug 16 12 blog - Why do forex forward dealers issue 1099s, yet retail spot forex brokers do not?) 

Phasing in the rules seems to be part of the problem. While the IRS phased in the new rules for brokers, it did not do so for taxpayers. The IRS is giving taxpayers the difficult job of deciphering all the inevitable discrepancies between 1099-Bs and Form 8949 results.

What should you do?
We suggest reading our blogs on this saga to understand the new IRS rules, how 1099-Bs are constructed and how you should handle Form 8949. We recommend using software like TradeLog and filing an extension.

For the 2011 tax-filing season — which ended on the extension deadline of Oct. 15, 2012 — IRS relief never came, and most brokers were not able to sufficiently correct their 1099-Bs. We filed 2011 tax returns as explained in our blogs below, and attached a suggested footnote explanation.

  • Aug 29 12 An update note to tax preparers and traders about incorrect 1099-Bs and 2011 tax filings
  • Aug 17 12 Tax Return Footnote: 2011 Form 8949 and Cost-Basis Reporting Rules
  • Jul 11 12 Cost-Basis Reporting Update: How To File Form 8949 With 1099-B Differences

Ways to avoid Form 8949
Business traders qualifying for trader tax status are entitled to elect Section 475 mark-to-market(MTM) accounting on a timely basis (by April 15, 2013 for the 2013 tax year). Section 475 business trades are reported on Form 4797 Part II (ordinary gain or loss) and not on Form 8949. Although Section 475 extricates traders from the compliance headaches of Form 8949, it does not change their preferred solution. Either way, traders should use TradeLog software to download their trades and calculate their required trade-by-trade gain or loss. Another way out of Form 8949 is to use an entity, which we recommend for business traders to reduce red flags on trader tax status. The IRS does notcurrently use Form 8949 on entity tax returns.

We recommend a Section 475 MTM election for business trading in securities only. We don’t recommend Section 475 MTM for Section 1256 contracts – which you are permitted to exclude from the Section 475 MTM election – so traders don’t lose lower 60/40 tax rates (currently up to 12% less). Don’t worry, Section 475 MTM is not permissible on segregated investments, so traders can enjoy tax deferral at year-end, and also hold for 12 months to generate lower long-term capital gains rates (currently up to 15%). Section 475 MTM reports both realized and unrealized gains and losses at year-end.

Be prepared for similar problems for 2012 returns
More cost-basis reporting items will be phased in for 2012 returns. Per Fidelity’s “Frequently asked questions about cost basis”: “On January 1, 2012, the second phase of the cost basis tax reporting requirements goes into effect. This next phase impacts reporting of securities eligible for average cost including mutual funds, exchange-traded funds (ETFs) classified as registered investment companies, and dividend reinvestment plans (DRIPs).” We are working on mutual fund bifurcation tax issues, and we plan to publish a separate blog on that subject soon.

We expect some brokers to compound wash sale loss problems from 2011 into 2012. If brokers only report potential wash sales in 2011 and 2012, they may not connect the years and related wash sale loss reporting problems, although that reporting is basically useless to taxpayers. Conversely, if brokers report overstated 2011 wash sales as part of 2012 cost basis, it will lead to overstating cost-basis in 2012, which then will lead to understating taxable income. We won’t know if this will happen until our CPAs start seeing 2012 Form 1099-Bs. Stay tuned. 


An update note to tax preparers and traders about incorrect 1099-Bs and 2011 tax filings

August 29, 2012 | By: Robert A. Green, CPA

Many tax preparers and traders have put 2011 tax return filings on hold, awaiting corrected 1099-Bs from securities-broker clearing firms. Unfortunately, many clearing firms are struggling and they simply can’t provide a 1099-B that tax preparers can rely on. How should preparers and traders proceed, considering that 2011 extended tax returns are due Sept. 17 for pass-through entities and Oct. 15 for individuals?

Taxpayers can’t hold out for corrected 1099-Bs any longer; they probably will never come. By law, taxpayers are responsible for reporting their securities trading gains and losses correctly on Form 8949, no matter what shape their 1099-B is in. If the broker has botched the 1099-B, it may help a taxpayer seek abatement on late-filing and late-payment penalties, but it won’t excuse taxpayers from reporting their trading gains and losses and paying the taxes they owe, including interest if late.

When taxpayers receive an incorrect Schedule K-1, they can file a Form 8082 “Notice of Inconsistent Tax Treatment” when they report a different amount or different tax treatment. But Form 8082 is not necessary with botched 1099-Bs in connection with the new IRS cost-basis reporting rules.

Our firm ended the tax-filing bottleneck a month ago. It’s time to start filing 2011 tax returns and to go with the army you have. That means using TradeLog software for trade accounting and any available broker profit and loss reports if they are in good shape and they can help you double-check TradeLog.

We work with the most recent “corrected” Form 1099-B our clients received, but mostly just to reconcile the totals and explain the differences on Form 8949 and in our tax return footnote. We published an example tax return footnote for TradeLog accounting on our blog dated Aug. 17, 2012.

We know key departments of the IRS are aware of the cost-basis reporting problem, and the AICPA has asked the IRS not to issue tax notices and exams when Form 8949s and 1099-Bs don’t match up. We asked the IRS for this same relief in our Petition to Congress. But we don’t know if it will honor this request. So, in the TradeLog tax return footnote, we explain that Form 8949 totals do reconcile with Form 1099-Bs after making the adjustments. That’s why we want the last corrected 1099-B available.

Tax preparers: We suggest you use TradeLog and our footnote, and consult with us if you have questions. Otherwise, you need to resign your account. It’s not fair to keep a client waiting, because they could be hit with large penalties, interest and tax bills that don’t make any sense. See our cost-basis reporting resources for more background information.


Cost-Basis Reporting Update: How To File Form 8949 With 1099-B Differences

July 11, 2012 | By: Robert A. Green, CPA

Join noted trader tax CPAs Robert A. Green and Darren Neuschwander, Managing Members of Green NFH, LLC for their “Webinar on July 17, 2012″ (or watch the recording afterward) as they discuss the latest IRS cost-basis-reporting developments for securities traders. Green and Neuschwander will discuss the below FAQs, show tax return examples, explain our rationale, and show traders and professionals how best to proceed on this challenging issue.

The background
Many securities traders filed 2011 tax extensions and they are awaiting our guidance on how to file their tax returns containing differences between trading profit and loss on Form 8949 and broker-issued 1099-Bs. The differences are sparking IRS tax exams. Most clearing firms struggled to issue multiple corrected 1099-Bs, and many of those still got it wrong. See our recent Webinar on ““Botched 1099-Bs, Form 8949 Differences, Tax Prep Tips, Extensions & MTM Elections”” (Mar. 28, 2012).

Many traders already filed their 2011 tax returns based on 1099-B reporting and overpaid their taxes by thousands of dollars. They should learn how to fix the errors and file amended tax returns to get refunds.

Wash sales are a big problem
1099-Bs grossly overstating wash sales seem to be the biggest culprit for errors — we saw this to the tune of millions of dollars on one taxpayer’s Form 8949. Oddly, many brokers inappropriately adjusted gross sales proceeds for wash sales adjustments, when they should have only adjusted cost basis. Many brokers reported ““potential” wash sales” in cost-basis, rather than actual wash sales, which are much lower.

FAQ this Webinar will address:

1. Question: Is it safe to file a 2011 individual income tax return/Form 8949 containing differences between your own trading profit and loss and amounts reported on Form 1099-Bs?

Answer: Instructions for Form 8949 ask for trade-by-trade reconciliations of proceeds and cost-basis, comparing your own accounting results with Form 1099-Bs. That’s almost impossible to do for active traders with botched 1099-Bs, which seems to be par for the course on 2011 tax filings.

The only good securities trade-accounting solution that we know of is TradeLog. While TradeLog can reconcile total proceeds and cost-basis from Form 8949 to Form 1099-B amounts, it does not have the capability to reconcile each line-by-line or trade-by-trade amount to Form 1099-B. TradeLog shows the total reconciliation difference for gross proceeds and cost-basis on Form 8949. It’s the “plug” number the IRS’s computerized 1099-B matching programs look for.

These Form 8949 unreconciled amounts vary greatly. Some are under $1,000 and others are in the millions, especially when potential wash sales versus actual wash sales are involved.

While we often have some good clues or ideas on what contributes to material unreconciled differences, we can’t be certain since it’s only a total difference rather than a line-by-line difference. It can take weeks of work to figure it out. Plus, it’s often a wild goose chase with no concrete results generated.

Rationale for our answer: Since Form 8949 instructions ask for a reconciliation of differences, we display them — no matter how big or small — on Form 8949. We use the reconciliation feature in TradeLog. Some clients and tax preparers may decide to skip the TradeLog step to avoid showing a huge reconciliation item on Form 8949, thinking that may reduce the chances of an IRS exam. We disagree, as the Form 8949 instructions ask for the reconciliation, and with that plug number, the Form 8949 will match the 1099-B when the IRS runs the computerized matching program. Not showing the reconciliation may indicate the preparer is unaware of the rules and that may cause the IRS to think the return is otherwise flawed, too.

We believe it’s a mistake to delete the plug number reconciliation difference from Form 8949. The IRS could construe it to mean a tax preparer is obstructing IRS oversight and disrespecting its new cost-basis reporting rules. That’s unwise. Bottom line, leaving in the reconciliation amount helps with matching and it complies with the rules.

2. Question: What happens if the IRS audits the trader over Form 8949?

Answer: If you’re examined by the IRS, plan to give the agent your TradeLog reports, brokerage statements, and Form 1099-B. Let the agent spend weeks comparing these documents. They will see TradeLog is correct and the 1099-Bs are sliced and diced with errors. This won’t cost the client much money or time, since the CPA does little work during the exam. The IRS can fool around on its dime and time.

If you get this type of tax notice, contact us for help. We will try to get the exam “reconsidered” and point the IRS back in the direction of the broker, who it should examine instead of the trader. This only takes a few hours of our time, so it doesn’t cost much.

3. Question: How should I deal with these unreconciled differences throughout the tax return filing?

Answer: You should highlight the differences from Form 8949 vs. 1099-B footnotes, and perhaps supporting worksheets. There’s no reason to try and bury them. The taxpayer and tax preparer should clearly state what steps they took in: doing their securities trade accounting; how they prepared Form 8949; how they reconciled with the 1099-B; and what the unreconciled differences might be — as best as they can explain it. Accountants would be foolish to try and cover up a problem or not comply with these rules. We suggest that tax preparers obtain representation or acknowledgement letters from clients about this problem and process, too, so there are no misunderstandings about scope and outcome later on.

If the unreconciled difference is under $1,000, you can probably skip long-form footnote explanations; a simple note on how you used TradeLog or other software should suffice. (TradeLog offers a footnote to use as well, explaining what it does and does not do in this regard.)

4. Question: How do I e-file a tax return with a Form 8949?

Answer: If you e-file your individual income tax return, we generally paper file the Form 8949s with attachments of the TradeLog reports and related footnotes. The transmittal form is Form 8453.

E-filings for individuals currently don’t permit PDF attachments, making the separate Form 8453 filing necessary. Although we can import TradeLog files into our software, we choose not to because there are other complications that can arise.

5. Question: Does the IRS require taxpayers and tax preparers to investigate unreconciled differences between Form 8949 and 1099-Bs? If yes, do they need to explain those differences on their tax return?

Answer: The IRS cost-basis rules call for taxpayers and tax preparers to “verify” Form 8949 to their 1099-Bs. But, verifying information like inaccurate wash sales perpetuates tax problems. The term “verify” indicates taxpayers and preparers should be sure the underlying trade information is correct, like comparing Form 8949 to actual trade confirmations. Unfortunately, 1099-Bs rarely agree with trade confirmations for 2011.

6. Question: Where do we find more information on known issues on Form 1099-Bs?

Answer: Both TradeLog and GreenTraderTax provide resources on known issues with various brokers on their 1099-Bs. “Click here”. Do your best to explain as many difference in general that you can and include that in a few sentences in the footnote. We may show some examples on the Webinar.

7. Question: Do traders have to keep pressing their brokers to correct 1099-Bs?

Answer: No, but they should try their best to do so — that earns points with the IRS.

One of our clients spent 40 hours of his time finding every individual difference and he presented all the evidence to his online broker. He forced his broker to fix every error on the 1099-B. That client’s Form 8949 now has no differences.

Few clients have the time to do this. If you find some errors, try to get your broker to issue a corrected 1099-B to narrow the unreconciled differences. But, in the end, it could prove to be frustrating, time consuming, and the broker may not cooperate. Make an attempt and document it in your footnotes.

8. Question: How can I avoid this Form 8949 mess in the future?

Answer: Consider forming an entity for business trading and investing in securities. Currently, entities don’t file a Form 8949. See our recent Webinar on ““The Best Entities for Traders and Investment Management Businesses.””

Individual business traders who elect Section 475 MTM file their trades on Form 4797, not on Form 8949. That solves the problem for business trades, but you still need Form 8949 for segregated investments. You can house both in an entity. Section 475 MTM is exempt from wash sale loss treatment. Caveat: It must be elected by April 15 of the current tax year. New taxpayers can elect it within 75 days of inception.

Or, trade futures and other Section 1256 contracts which are reported in summary fashion on Form 6781, rather than on Form 8949. Futures are not subject to wash sale treatment. See our recent Webinar on ““Tax Benefits from Trading Futures & Section 1256 Contracts.””

Commentary
Is this an example of government overreach and regulation with poor thinking? Why ask brokers to spend time and money compiling more information for IRS consumption when the aggregated information is going to be incorrect (wash sales)? Aggregation is for the old economy with manual work, not the new high tech world. The IRS could have simply asked brokers to include an annual statement in the same manner as a monthly statement, containing all debits and credits for buys and sells of capital assets. It wouldn’t have needed to phase-in the rules, causing great additional confusion.

Are local tax preparers, including CPAs, subjecting themselves to professional liability claims and IRS preparer penalties? Shouldn’t their professional liability insurance carriers insist they not take the apparent easy way out by relying on 1099-Bs? We hear most accountants start tax preparation by importing 1099-Bs into their tax software after scanning them with OCR recognition. They are baking inaccurate tax information into their cake. Verifying afterward that their tax software used the 1099-B correctly misses the point because the ingredients are wrong to begin with. We help accountants select and use the proper solutions — TradeLog and more — for this filing crisis. We are currently evaluating another software solution for finding differences and we should report on this soon.

Who should attend the Webinar?
If you trade securities, or have a client who does, don’t miss this important Webinar. This crisis is huge and most accountants, tax attorneys, brokerage firms, software providers and the media are short changing and under-reporting it. The IRS wants to close the tax gap, but, causing taxpayers to overpay taxes by perhaps a billion dollars in connection with these inaccuracies isn’t the answer. We see this huge crisis as an ethical issue for the IRS, Congress, brokers, and accountants.

Please sign our petition
We will update our Petition to Congress soon calling on the IRS to recall or repeal these poorly crafted rules. We’ll suggest that the IRS ask brokers for an annual statement of all buys and sales. Don’t ask taxpayers to file a Form 8949 until brokers have filed the annual statement on the 1099-B correctly for several years and the IRS has consumed it properly. This is a very simple data dump, and we don’t need the extra cost and confusion. The cost-basis crisis is a microcosm of the entire government vs. private section economy. Use computers to exchange data and take all the people — middle men accountants and rule makers — out of it.

We asked Congress for IRS relief in our last Petition ““Securities Traders Need Tax Relief on IRS Cost-Basis Reporting Rules”” on RallyCongress.com and through other initiatives. Please sign it today. The IRS recognizes only a fraction of the problem, and it provided fractional relief. Specifically, to delay the 2013 phase-in rules one year to 2014 for cost-basis reporting on options and debt instruments. We’re urging the IRS to rethink the rules and start over right. Is this why our tax code is an abomination of complexity?

Watch a MoneyShow video interview with Robert A. Green, CPA on this subject from the June 2012 Traders Expo Dallas: “Tax Flubs That Can Cost You Thousands”.

Consultations
If you have further questions or need our help in addressing your personal situation, consider a consultation with us. We have a summer promotion on “consultations” and “entity formation services”.

TradeLog Accounting Services
We offer “TradeLog accounting services” which include preparation of your Form 8949, dealing with the unreconciled differences as best we can in short order, and preparation of your related footnotes. If you have a local CPA, engage us to handle this difficult part of your tax return — your local CPA will really appreciate it.

Bottom line
Don’t file an incorrect tax return and over pay your taxes by thousands of dollars, due to botched wash sale reporting, or other 1099-B errors. And, don’t cause yourself an unnecessary IRS exam, either. Get informed, use the right software solutions, and get help from trader tax experts who understand the nuances of cost-basis reporting.


Form 8949: What To Do About Tax Problems For Reporting Securities Trades

June 28, 2012 | By: Robert A. Green, CPA

P.S. We expanded on this blog to include Questions and Answers for our upcoming Webinar on this subject. See our blog dated July 11, 2012.

This is an important update on the cost-basis reporting crisis, Form 8949 and dealing with botched 1099-Bs.

Join noted trader tax CPAs Robert A. Green and Darren Neuschwander, Managing Members of Green NFH, LLC for their Webinar on July 17, 2012. (or watch the recording afterward) as they discuss the latest developments and solutions for the continuing IRS cost-basis-reporting filing crisis.

The background
Many securities traders filed 2011 tax extensions and they are awaiting our guidance on how to file their tax returns containing material unreconciled differences between trading profit and loss on Form 8949 and broker-issued 1099-Bs. The IRS is very keen on these differences and it can cause tax exams. Most clearing firms struggled to issue multiple corrected 1099-Bs, and many of those still got it wrong.

Many traders already filed their 2011 tax returns based on 1099-B reporting and overpaid their taxes by thousands of dollars. They should learn what’s wrong and file amended tax returns to get refunds.

1099-Bs grossly overstating wash sales seems to be the biggest culprit for errors — we’ve seen this to the tune of millions of dollars. We may have found a tax law inconsistency in regulations versus code; the cost-basis regulations require wash sale reporting, but the Internal Revenue Code 6045(g) does not don’t require wash sale reporting, only to adjust basis for wash sales. It’s better for brokers to skip wash sales entirely, rather than report them grossly wrong on 1099-Bs. Only taxpayers have access to all of their brokerage accounts and know their own elections, which are required to calculate wash sales correctly.

Questions this Webinar will address
Is it safe to file a 2011 individual income tax return containing material unreconciled differences in cost-basis reporting? How should you present those differences on Form 8949? Should you highlight the differences with good tax return footnotes and supporting worksheet explanations, or should you try to bury the differences in the return? How should you comprise those footnotes and supporting worksheets?

Does the IRS require taxpayers and tax preparers to investigate unreconciled differences between 1099-Bs and Form 8949 and explain them on the tax return? The IRS cost-basis rules call for taxpayers and tax preparers to verify Form 8949 to their 1099-Bs. But, doesn’t verifying information like inaccurate wash sales perpetuate tax problems? Shouldn’t the term “verify” indicate taxpayers and preparers need to be sure the underlying information is correct, like comparing it to actual trade confirmations?

Is this an example of government overreach and regulation with poor thinking? Why ask brokers to spend time and money compiling more information for IRS consumption when the aggregated information is going to be incorrect (wash sales)? Aggregation is for the old economy with manual work, not the new high tech world. The IRS could have simply asked brokers to include an annual statement in the same manner as a monthly statement, containing all debits and credits for buys and sells of capital assets. They wouldn’t have needed to phase-in the rules, causing great additional confusion.

Are local tax preparers, including CPAs, subjecting themselves to professional liability claims and IRS preparer penalties? Shouldn’t their professional liability insurance carriers insist they not take the apparent easy way out by relying on 1099-Bs? We hear most accountants start tax preparation by importing 1099-Bs into their tax software after scanning them with OCR recognition. They are baking inaccurate tax information into their cake. Verifying afterward that their tax software used the 1099-B correctly misses the point because the ingredients are wrong to begin with. We help accountants select and use the proper solutions for this filing crisis. It’s TradeLog for preparing Form 8949 and some other solutions for finding and explaining 1099-B differences.

If you trade securities, or have a client who does as a tax preparer, don’t miss this important Webinar. This crisis is huge and most accountants, tax attorneys, brokerage firms, software providers and the media are short-changing and under-reporting it. The IRS wants to close the tax gap, but, causing taxpayers to overpay taxes by perhaps a billion dollars in connection with these inaccuracies is not the answer. We see this huge crisis as an ethical issue for the IRS, Congress, brokers, and accountants. Yes, we have an excellent business in fixing these problems, but we wish we didn’t have to.

We will update our Petition to Congress soon calling on the IRS to recall or repeal these poorly crafted regulations and rules. We’ll suggest to the IRS that they just ask brokers for an annual statement of all buys and sales. Don’t ask taxpayers to file a Form 8949 until brokers have filed the annual statement on the 1099-B correctly for several years, and the IRS has consumed it properly. This is a very simple data dump, and we don’t need all the mis-aggregation, confusion, red tape and extra cost. The cost-basis crisis is a microcosm of the entire government vs. private section economy. Use computers to exchange data and take all the people —middle men accountants and rule makers — out of it.

We asked Congress for IRS relief in our last Petition ““Securities Traders Need Tax Relief on IRS Cost-Basis Reporting Rules”” on RallyCongress.com and through other initiatives. The IRS recognizes only a fraction of the problem, and it provided very fractional relief. Specifically, to delay the 2013 phase-in rules one year to 2014 for cost-basis reporting on options and debt instruments. We’re urging the IRS to rethink the rules, see the flaws, recall the rules and start over right. Is this why our tax code is an abomination of complexity?

Watch a MoneyShow video interview with Robert A. Green, CPA on this subject from the June 2012 Traders Expo Dallas: Tax Flubs That Can Cost You Thousands.


Extensions: Some traders may qualify for IRS penalty relief

March 29, 2012 | By: Robert A. Green, CPA

Postscript March 20, 2013: To accommodate taxpayers in the last recession, the IRS allowed taxpayers to use “economic hardship” as a reason for granting relief from late-payment penalties. For 2011, taxpayers could file Form 1127-A (2011) “Application for Extension of Time for Payment of Income Tax Due to Economic Hardship” as explained in our blog below. As of this date, the IRS has not issued a Form 1127-A for 2012, so taxpayers need to qualify for penalty relief under the general Form 1127, “Application for Extension of Time for Payment of Tax Due to Undue Hardship.” Form 1127 instructions state ‘File Form 4868, Application for Automatic Extension of Time To File U.S. Individual Income Tax Return… and Do not file Form 1127 (instead).’

It’s getting too late to focus on complete tax return filings due by April 17. (April 17 is the tax deadline this year since April 15 is a Sunday and April 16 is a federal holiday in Washington D.C.) Instead, focus on filing an automatic extension to get an additional six months to file. While extensions are fairly basic one-page filings – listing estimated tax liability, taxes paid to date and balances due – you should be aware of several important strategies, pitfalls and relief from the IRS. Partnership tax extensions are also due April 17, 2012, granting you five more months to file by Sept. 17, 2012.

New for 2011 tax returns: Form 1127-A relief
Some business traders and other taxpayers may qualify for new relief from the IRS provided by filing new tax Form 1127-A, Application for Extension of Time for Payment of Income Tax for 2011 Due to Undue Hardship. If you qualify to use Form 1127-A rather than the automatic extension Form 4868, you will be exempt from nasty penalties associated with paying less than 90 percent of taxes owed by April 17, and related rules mentioned below.

An automatic extension is for filing later, but paying taxes owed by April 15. This new form allows a qualifying taxpayer to pay later without penalties. But, you still need to file Form 1127-A correctly and on time.

On Form 1127-A, “financial hardship” is defined as:

· wage earners (or spouse) who have been unemployed at least 30 consecutive days during 2011 or in 2012 up to the April 17 filing deadline, or 

· self-employed individuals who experienced a 25% or greater reduction in business income in 2011 due to the economy. 

Many traders may qualify for this financial hardship clause and the AGI income and tax liability thresholds. Leaving a job to pursue trading full time and losing money may be the ticket. Click here to learn more about Form 1127-A. Check with us if you have any questions.

Great year in 2011, but lost the money in 2012
Some traders can’t pay their taxes because they lost 2011 trading gains in Q1 2012 before April 17, 2012. That’s a different situation than “financial hardship” mentioned above. If you can’t pay your taxes, use one of the following strategies with a Form 4868 extension filing.

Securities traders need to file extensions
Due to the cost-basis reporting crisis on 2011 tax returns, we are advising securities traders to file for automatic extensions, rather than try to rush tax returns filings (with problems) by April 17. Securities traders need more time to request corrected 1099-Bs from their brokers and hopefully fully reconcile differences in trade-accounting reporting on Form 8949. We don’t want traders to be audited by the IRS or to receive tax notices caused by reconciliation differences with 1099-Bs.

File for an automatic extension
It’s important to file an automatic extension by April 17, whether you can pay the taxes owed or not. Paying what you owe is the safe way to avoid penalties. If you can’t pay 90 percent, according to Form 4868 instructions your extension can still be valid if you demonstrate reasonable cause and these conditions in the eyes of the IRS:

1. Properly estimate your 2011 tax liability using the information available to you
2. Enter your total tax liability on line 4 of Form 4868, and
3. File Form 4868 by the regular due date of your return.

No. 1 might be the most difficult condition to satisfy. Many traders are unsure of their 2011 trading gains, due to botched wash-sale loss reporting by brokers on 1099-Bs or other reasons. Many traders may underestimate their taxable income and pay too little with their extension. Will the IRS think that you “properly estimated your 2011 tax liability using the information available to you”? We suggest relying on TradeLog if you have it rather than conflicting and botched 1099-Bs.

No. 3 is the easier one. If you skip the extension, you will trigger both late-filing and late-payment penalties.

Penalties explained on Form 4868
Late Payment Penalty: The late payment penalty is usually ½ of 1% of any tax (other than estimated tax) not paid by April 17, 2012. It is charged for each month or part of a month the tax is unpaid. The maximum penalty is 25%. The late payment penalty will not be charged if you can show reasonable cause for not paying on time. Attach a statement to your return fully explaining the reason. Do not attach the statement to Form 4868. You are considered to have reasonable cause for the period covered by this automatic extension if at least 90% of your actual 2011 tax liability is paid before the regular due date of your return through withholding, estimated tax payments, or payments made with Form 4868.

Late Filing Penalty: A late filing penalty is usually charged if your return is filed after the due date (including extensions). The penalty is usually 5% of the amount due for each month or part of a month your return is late. The maximum penalty is 25%. If your return is more than 60 days late, the minimum penalty is $135 or the balance of the tax due on your return, whichever is smaller. You might not owe the penalty if you have a reasonable explanation for filing late. Attach a statement to your return fully explaining the reason. Do not attach the statement to Form 4868.

Be conservative and pay extra with the extension
We suggest being conservative with the extension payment — pay 100 percent of the estimated 2011 tax liability. That gives you a cushion if your estimates are wrong. If you aren’t sure about qualifying for trader tax status in 2011, then we suggest you prepare the extensions based on investor tax status. Or, consult with Robert Green, CPA as soon as possible.

Consider 2012 Q1 estimated taxes too
Taxpayers with material income in Q1 2012 — which is not subject to tax withholding — should consider paying closer to 125 percent of their 2011 extension balance due. When they file their actual 2011 income tax return, they can apply the 2011 tax overpayment credit toward 2012 estimated taxes. This strategy has served our firm well for decades. Rather than pay Q1 estimates separately, pay more with the 2011 extension instead. Be conservative with the tax cash paid to the IRS, but be aggressive and legal with the tax return filings, as that is where the real money is.

What to do if you can’t pay on time?
If you can’t pay 90 percent of your tax liability by April 17, first see if you qualify to use Form 1127-A (see above) for special relief on paying later without penalties. But, file this form on time. If you don’t qualify, file Form 4868 (Automatic Extension). If you are short cash, pay what you can, and try to impress the IRS with reasonable cause when you request penalty abatement after filing your tax return.

When you file your actual income tax return, the IRS will automatically send you a tax notice assessing the appropriate penalties, plus interest expense. After you receive that tax notice, send the IRS a “penalty abatement request” letter stating your reasonable cause and how you acted in good faith. Hopefully, you can get some or all penalties abated. Interest expense is statutory, so the IRS can’t abate it. The current IRS interest rate on late payments is 3% per annum.

State extensions
Some states don’t require an automatic extension if you’re overpaid, as they accept federal extensions. Generally in all states, if you owe taxes, you need to file a state extension with 90 percent payment, too. Check the extension rules in your state. States tend to be less accommodating than the IRS in waiving penalties, so it’s usually wise to cover your state first if you are short on cash.

Don’t forget new Section 475 MTM elections are due by April 17
Making a Section 475 MTM election could be tricky based on using unreliable trading gain or loss tax information from the cost-basis reporting mess. This information can affect your decision to file or skip the Section 475 MTM election. Generally, we recommend Section 475 MTM on securities only, providing the business trader doesn’t have capital loss carryovers. Traders need capital gains to use up capital loss carryovers — not Section 475 MTM ordinary income. On the other hand, wash sales from 2011 can be converted into Section 475 MTM ordinary losses in 2012 with a MTM election. Consult a trader tax expert about this election. It’s beyond the scope of this article.

Section 475 MTM exempts traders from Form 8949 and wash sales. GreenTraderTax has recommended Section 475 MTM for securities business traders since Congress opened this door in 1997. All these years, it exempted business traders from wash sale rules – which have always been a pain to understand and apply – and that onerous capital loss limitation of $3,000 against ordinary income. Now, Section 475 MTM also exempts business traders from Form 8949, as Section 475 is reported on Form 4797 Part II ordinary gain or loss.

Note: You can’t attach a Section 475 MTM election to an e-filed automatic extension. You must paper-file the extension with a Section 475 MTM election statement attached.

Bottom line
Focus on what’s important now for April 17: filing a valid extension, seeing if you qualify for Form 1127-A relief and considering a Section 475 MTM election for 2012. Consider a consultation with our Robert A. Green, CPA to discuss these issues and more. Don’t bury your head in the tax quick sand — that’s always the worst choice.

Darren L. Neuschwander, CPA contributed to this article.


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