Sold Stocks Last Year? CCH Outlines What You Need To Know Before Tackling Schedule D
(RIVERWOODS, ILL., February 11, 2003) Ė If you were among the
millions of investors contributing to the record outflow of dollars
from individual securities and mutual funds during 2002, not only will
you be precluded from filing a 1040EZ or 1040A income tax return, youíll
be entering the confusing, unfriendly world of the Schedule D tax
form, according to CCH INCORPORATED (CCH), a leading provider of tax
law information and software.
Those who sold a home or valuable collectibles, or had capital
gains distributions from mutual funds or real estate investment
trusts, also have to fill out and file a Schedule D. Reporting these
transactions, however, generally doesnít present nearly the
challenge found in calculating capital gains and losses on securities.
"When youíre dealing with a home, itís two discrete
events: you buy a home at a point in time for a single price; you sell
it at another point in time for a single price, adjusted for capital
improvements," said Cameron Routh, CCH GainsKeeper market
development manager. CCH GainsKeeper (www.gainskeeper.com)
is the leading provider of automated tax-based financial tools and
services for the investment community.
"But when youíre dealing with securities, itís often a
continuous, interconnected process rather than an event," noted
Routh. "Individuals regularly add to their positions, sell and
rebalance their portfolios; and even within an investorís portfolio,
thereís frequent change in the holdings as companies merge, spin
off, undergo stock splits and take other corporate actions."
The Long and Short of It
The basic premise behind the Schedule D is to provide a place to
detail capital gains and losses so that the total taxable gains or
deductible losses can then be carried forward to the 1040.
To calculate gains or losses on your Schedule D, you first need to
identify short-term gains and losses, and long-term gains and losses.
Long-term gains, those from investments held longer than one year,
are taxed at the more favorable capital gains rate, which is no higher
than 20 percent. Short-term gains, those from investments held less
than a year are treated as income and taxed at your personal income
tax rate, meaning as high as 38.6 percent.
If the number you arrive at is a loss for the year, the IRS will
allow you to write-off up to $3,000 against your income for 2002. All
other losses can be carried forward to write-off in future years.
While this seems simple enough, looks can be deceiving. In fact,
the result of arriving at the correct gain or loss can be a major
undertaking. Among the items investors want to keep in mind as they
tackle the Schedule D:
- Make sure to account for all corporate actions
Many people assume that the cost basis is what they paid for the
stock or mutual fund at the time it was purchased. But, the basis
changes each time a corporate action occurs. With more than 8,000
corporate actions annually, a particularly active stock may see
several basis changes in the course of just one year.
Some corporate actions are manageable. For example, to account
for a stock split, investors divide the total cost of the initial
purchase by the new share amount to come up with an adjusted cost
Other corporate actions, however, require more laborious
calculations. For example, mergers can be either taxable or
nontaxable depending upon the structure of the merger transaction.
If shares you held in a company are exchanged for shares of a newly
merged company, the basis of your old shares may carry over to the
new shares or may need to be adjusted.
It is up to the investor to identify any corporate actions that
effect their holdings, and to make all necessary cost basis
adjustments for each security. Not accounting for these correctly
could mean significantly overstating a gain, costing you more in
taxes. In the event of an audit that finds youíve understated your
gains, youíd also be liable for back taxes, interest and other
penalties or fines imposed by the IRS.
- Check to see if you have any wash sales
A "wash sale" describes trading activity in which you
sell shares of a security at a loss and within 30 days Ė either
before or after that sale Ė you purchase a substantially identical
"Investors really need to think ahead when it comes to
avoiding wash sales," said Routh. "Many individuals donít
realize that the rule applies not only to the 30 days after they
sold a security at a loss, but also to the 30 days leading up to the
Individuals who invest in mutual funds need to be particularly
cautious. For example, if you make regular investments into a mutual
fund, you may inadvertently find yourself in a wash sale situation
if you go to sell shares for a loss.
If you do have a wash sale, your loss is deferred for tax
purposes, and you need to offset the deferred loss with a wash sale
cost adjustment on the newly acquired tax-lot. For example, say you
sold 100 shares of AZA Motor Works Company for a total of $1,000 on
December 2, 2002.
Your basis was $1,100, so you have a loss of $100. On December
16, you repurchase 100 shares of AZA for $1,000. Because the
repurchase happened within 30 days of the initial sale, you have a
wash sale situation. You canít, therefore, immediately realize the
$100 loss on the sale of the first 100 shares. You must adjust the
cost basis of the second 100 shares purchased to include the
deferred $100. So, the adjusted basis for the second 100 shares you
purchased is $1,000 plus $100, or $1,100.
- Plan ahead to lower taxes obligations for 2003
Waiting until it's time to file Schedule D to think about capital
gains taxes can be a costly mistake. Keeping an eye on your gains
and losses throughout the year, and figuring out the tax
implications of buying and selling investments, can really help you
reduce your capital gains taxes, noted Routh.
One example of this is understanding the different tax-lot
accounting methods. The default method is first in first out (FIFO),
meaning you sell your oldest lots first. In a rising market, these
lots would have the lowest cost but the highest gain and, in turn,
the more taxes owed when sold.
"Thereís no right or wrong method," said Routh.
"But it is possible to reduce the taxes you have to pay by
selling your highest cost shares first. Better yet, sell a lot that
has a loss, so that you can offset a gain you realized on a prior
In addition to the FIFO and Specific ID methods, mutual fund
investors can choose from two additional rules for figuring their
gains or losses. One method uses a single average price for all the
shares. The other divides the shares into short-term and long-term
holdings and calculates an average price for each group.
However, if you use either of the two averaging methods for
mutual funds, you canít switch to the FIFO or specific ID method
for future sales of the same fund without first getting IRS
permission to do so.
- Good recordkeeping can save time, lower costs
Your brokerage firm will provide you with a Form 1099-B listing
all the stock sales you made throughout the year. But, the 1099 does
not identify which tax-lots those sells were applied to, what your
gains or losses were or whether they were short or long term. As a
result, itís up to individual investors to track cost basis and
calculate their own gains and losses.
"Whether you do your taxes on your own or you use an
accountant, someone has to try to recreate the cost basis if you havenít
been keeping track of it along the way," said Routh.
"Knowing your gain/loss situation throughout the year will save
you time, and possibly a great deal of money, at tax time."
About CCH INCORPORATED
CCH INCORPORATED, founded in 1913, has served four generations of
business professionals and their clients. CCH GainsKeeper (www.gainskeeper.com),
based in Quincy, Mass., is the leading provider of automated tax-based
financial tools and services for the investment community and is a
division of CCH. CCH is a wholly owned subsidiary of Wolters Kluwer
North America. The CCH web site can be accessed at cch.com.
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