Industry participants say brokers have made a lot of progress toward meeting new cost-basis reporting requirements from the Internal Revenue Service, which take effect in January.
As the deadline looms, however, there are a couple of major areas where brokers need more clarity on how to comply with the new rules when they go into effect next year.
These include the transfer of assets from one firm to another, and increased international investing, according to Cameron Routh, a senior vice president of strategic products at Scivantage, a Jersey City company that provides front- and middle-office technology services for financial services firms.
Under current rules, individual investors are responsible for reporting to the IRS gross proceeds from the sales of securities, while calculating their tax liabilities. For years, brokers have helped investors calculate this as part of their suite of services.
The updated cost basis reporting rules will begin requiring brokers to report their clients' information to the IRS, too. Brokers will also have to report how much an investor paid for original securities, and whether the gain or loss is long-term or short term. The new reporting requirements will ultimately give the IRS a more precise estimation of how much capital gains taxes are owed on those sales, Routh said. Reporting on equities begins next year, while information on mutual funds, exchange-traded funds and dividend reinvestment plans will be required in 2012, and the following year the rule will apply to all securities, including fixed-income and futures.
In addition to reporting to the IRS, brokers will have to provide basis information in case of a transfer from one firm to another. Specifically, it would entail the securities information, and whatever losses that will affect the broker. Although the requirements for certain securities like mutual funds do not technically begin until Jan. 1, 2012, it will force brokers to adopt those rules if clients holding those securities change brokers before 2012, according to Routh.
"There are still unknowns around those requirements," Routh said.
Another looming issue is how investors and brokers are supposed to report information from foreign entities issuing the underlying stock, mutual funds or other securities in their portfolios. Foreign entities do not typically provide the same level of detail that the IRS now wants from brokers and investors, Routh said.
In years past, it was mainly wealthy clients who invested overseas. Their brokers provided as much information as possible as a courtesy to clients. But the investing environment is different now.
"More brokers are allowing trading on foreign markets for their clients," Routh said. "If they allow customers to purchase something in Tokyo, they will need to provide direct cost-basis information for that security." The trouble is that issue in Tokyo might not be providing enough information. "It might not even be in English," Routh said.
Even the IRS has questioned its own ability to enforce those new reporting rules for international securities. As the first big deadline approaches, Routh says he hopes the IRS can come up with a penalty release, or exceptions, on rules that would be difficult to enforce.