For most advisers, the broader cost-basis reporting rules due to take effect next year will not change their lives directly. Normally, they provide information to clients about the adjusted cost basis of sold securities, for tax-reporting purposes.
But now that custodians like Schwab Advisor Services will have to report the same information directly to the Internal Revenue Service, Schwab is taking steps to ensure that it and its adviser clients move in lockstep to avoid running afoul of the IRS' new rules.
Schwab Advisor Services, a division of Charles Schwab Corp., released a report on Monday called "Preparing for the New Cost Basis Regulations." It will help its affiliated advisers prepare for the pending reporting requirements under the Emergency Economic Stabilization Act of 2008.
The requirements will be phased in over three years, beginning with equities bought and sold on and after Jan. 1, 2011. Reporting 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, according to Brian Keil, director of cost-basis and tax reporting for Charles Schwab.
The report is part of a continuing program of webcasts and nationwide workshops this summer to help the advisers be prepared for implementation in 2011.
"Ensuring synchronicity is critical," Keil said. "Taxpayers will want to ensure that what the broker is … submitting is accurate. We're deemed as the authoritative source for securities covered under this legislation."
For instance, one of the key changes requires brokers to default to the first-in, first-out method to calculate gains and losses on securities that are not eligible for the average cost method.
For any position not using average cost, advisers and their clients can choose lots using the specific identification method, according to the report. This can be done either at the time of the trade or through a standing order. Lot selection choices can vary from broker to broker.
If the adviser wants to specify a lot to sell, or change the cost-basis method for a sale, they can only do that until the time the trade is settled. After that, the method used will be final.
Schwab's new report lays out specific steps that advisers can take to help clients deal with the transition: create a communications plan, anticipate clients' needs and evaluate the impact on your back-office operations. But it heavily emphasizes the importance of communicating with clients now, especially to avoid four specific and potential snags.
First, clients might not understand cost basis. They could also underestimate the dissonance that could happen if a broker uses a different default method for determining adjusted cost basis than the adviser and their client.
Second, the new rules will not cover all securities beginning at implementation on Jan. 1, 2011; clients might be unsure about what is covered and what is not.
Third, securities transferred from other brokers after the effective date will need to come with a transfer statement that includes cost-basis information. Clients might call with questions about whether the cost-basis information was properly moved.
Finally, when clients get their Form 1099-Bs in early 2012, they will see cost-basis information for any equity transactions in 2011, but they will not be able to change the cost-basis method used for each trade, which might frustrate them.