Vernoia, Enterline + Brewer, CPA LLC

Archive for June, 2011

New broker-reporting rules: burden to brokers a boon to taxpayers?

As a result of recent changes in the law, many brokerage customers will begin seeing something new when they gaze upon their 1099-B forms early next year.  In the past, of course, brokers were required to report to their clients, and the IRS, those amounts reflecting the gross proceeds of any securities sales taking place during the preceding calendar year.

In keeping with a broader move toward greater information reporting requirements, however, new tax legislation now makes it incumbent upon brokers to provide their clients, and the IRS, with their adjusted basis in the lots of securities they purchase after certain dates, as well. While an onerous new requirement for the brokerage houses, this development ought to simplify the lives of many ordinary taxpayers by relieving them of the often difficult matter of calculating their stock bases.

When calculating gain, or loss, on the sale of stock, all taxpayers must employ a very simple formula. By the terms of this calculus, gain equals amount realized (how much was received in the sale) less adjusted basis (generally, how much was paid to acquire the securities plus commissions). By requiring brokers to provide their clients with both variables in the formula, Congress has lifted a heavy load from the shoulders of many.


The new requirements also specify that, if a customer sells some amount of shares less than her entire holding in a given stock, the broker must report the customer’s adjusted basis using the “first in, first out” method, unless the broker receives instructions from the customer directing otherwise. The difference in tax consequences can be significant.

Example.  On January 16, 2011, Laura buys 100 shares of Big Co. common stock for $100 a share. After the purchase, Big Co. stock goes on a tear, quickly rising in price to $200 a share, on April 11, 2011. Believing the best is still ahead for Big Co., Laura buys another 100 shares of Big Co. common on that date, at that price. However, rather than continuing its meteoric rise, the price of Big Co. stock rapidly plummets to $150, on May 8, 2011. At this point, Laura, tired of seeing her money evaporate, sells 100 of her Big Co. shares.

Since Laura paid $100 a share for the first lot of Big Co. stock that she purchased (first in), her basis in those shares is $100 per share (plus any brokerage commissions). Her basis in the second lot, however, is $200 per share (plus any commissions). Unless Laura directs her broker to use an alternate method, the broker will use the first in stock basis of $100 per share in its reporting of this first out sale. Laura, accordingly, will be required to report a short-term capital gain of $50 per share (less brokerage commissions). Had she instructed her broker to use the “last in, first out” method, she would, instead, see a short-term capital loss of $50 per share (plus commissions).

Dividend Reinvestment Plans

As their name would suggest, dividend reinvestment plans (DRPs) allow investors the opportunity to reinvest all, or a portion, of any dividends received back into additional shares, or fractions of shares, of the paying corporation. While offering investors many advantages, one historical drawback to DRPs has been their tendency to obligate participants to keep track of their cost bases for many small purchases of stock, and maintain records of these purchases, sometimes over the course of many years. Going forward, however taxpayers will be able to average the basis of stock held in a DRP acquired on or after January 1, 2011.


The types of securities covered by the legislation include virtually every conceivable financial instrument subject to a basis calculation, including stock in a corporation, which become “covered” securities when acquired after a certain date. In the case of corporate stock, for example, the applicability date is January 1, 2011, unless the stock is in a mutual fund or is acquired in connection with a dividend reinvestment program (DRP), in which case the applicable date is January 1, 2012. The applicable date for all other securities is January 1, 2013.

Short Sales

In the past, brokers reported the gross proceeds of short sales in the year in which the short position was opened. The amendments, however, require that brokers report short sales for the year in which the short sale is closed.

The Complex World of Stock Basis

There are, quite literally, as many ways to calculate one’s basis in stock as there are ways to acquire that stock. Many of these calculations can be nuanced and very complex. For any questions concerning the new broker-reporting requirements, or stock basis, in general, please contact our office.

Compute the tax due each year on an annuity

Many more retirees and others wanting guarantee income are looking into annuities, especially given the recent experience of the economic downturn. While the basic concept of an annuity is fairly simple, complex rules usually apply to the taxation of amounts received under certain annuity and life insurance contracts.

Amounts received as an annuity are included in gross income to the extent that they exceed the exclusion ratio, which is determined by taking the original investment in the contract, deducting the value of any refund features, and dividing the result by the expected yield on the contract as of the annuity starting date. In general, the expected return is the product of a single payment and the anticipated number of payments to be received, i.e., the total amount the annuitant(s) can expect to receive. In the case of a life annuity, the number of payments is computed based on actuarial tables.

If the annuity payments are to continue as long as the annuitant remains alive, the anticipated number of payments is based on the annuitant’s (or annuitants’) life expectancy at the birthday nearest the annuity starting date. The IRS provides a variety of actuarial tables, within unisex tables generally applicable to all contracts entered into after June 1986. The expected return multiples found in the actuarial tables may require adjustment if the contract specifies quarterly, semiannual or annual payments or if the interval between payments exceeds the interval between the annuity starting date and the first payment.

In connection with annuity calculations, one recent tax law change in particular is worth noting. Under the Creating Small Business Jobs Act of 2010, enacted on September 27, 2010, if amounts are received as an annuity for a period of 10 years or more or on the lives of one or more individuals under any portion of an annuity, endowment, or life insurance contract, then that portion of the contract will now be treated as a separate contract for tax purposes. As result, a portion of such an annuity, endowment, or life insurance contract may be annuitized, while the balance is not annuitized. The allowance of partial annuitization applies to amounts received in tax years beginning after December 31, 2010.

If you need help in “crunching the numbers” on an annuity, or if you’d like advice on what annuity options might best fit your needs, please do not hesitate to contact our office.

IRS allows real estate professionals a late election to aggregate rental real estate activities

The IRS is allowing real estate professionals to make a late election a special procedure to aggregate rental real estate interests in applying the passive activity loss (PAL) rules. Provided this procedure is followed, the real estate professional will be eligible for an extension of time to file the so-called “Reg 1.469-9(g) election” to treat all rental real estate interests as a single activity.

Aggregating all rental real estate interests into one activity can provide a significant tax advantage.  This new IRS procedure, of course, also points out that those taxpayers who do not qualify for tax-professional status face additional challenges in coordinating losses in connection with more than one real estate properties.

Ground rules

Losses from a passive activity can only offset income from another passive activity and cannot offset income from a nonpassive activity. These rules apply if the taxpayer does not materially participate in the activity. Rental real estate activities are treated as “per se” passive activities, meaning that they are automatically consider passive unless the taxpayer can prove material participation in the activity and the performance of qualifying services in real property trades or businesses (the hallmarks of a “qualifying taxpayer”). The rules to qualify are quite specific.


Ordinarily, the PAL rules apply as if each taxpayer interest in rental real estate were a separate activity. However, a taxpayer may elect to treat all interests in rental real estate as a single real estate activity, by filing a statement with the taxpayer’s original income tax return for the year.

The election is binding for the year in which it is made and for all future years, unless the taxpayer is not a qualifying taxpayer. A taxpayer can make the election in any year in which the taxpayer qualifies; not just the initial year of qualification. A taxpayer can revoke the election only if there is a material change in the taxpayer’s circumstances.

Late election

To obtain relief under the new procedure from an otherwise untimely election, representations must have “reasonable cause” for not making a timely election. The taxpayer must attach the statement to an amended return for the most recent tax year, explain the reason for the failure to file a timely election, and identify the year for which it is making a late election. Once the IRS approves the relief application, the taxpayer may then treat all interests in rental real estate as a single rental real estate activity for the year for which the election was made.

Rev. Proc. 2011-34

NJ – Qualifying therapeutic discovery project grants, other matters discussed

The New Jersey Division of Taxation quarterly newsletter provides guidance regarding whether qualifying therapeutic discovery project grants would be excluded from the income of a corporation for corporation business tax purposes. For gross (personal) income tax purposes, IRC §1035 exchanges, Keogh plan contributions made by a sole proprietorship, and tax on the gain from the sale of real property are discussed. For sales and use tax purposes, the rental of storage units to tenants by an apartment complex and the urban enterprise zone point of purchase exemption is addressed, as is the taxability of the sale of a wig to a member of a particular religious community. The guidance also discusses nexus requirements relating to the litter control fee. New Jersey State Tax News, Vol. 40, No. 1, New Jersey Division of Taxation, Spring 2011

Annuity contract owned in trust avoids acceleration of tax

Annuities have moved to the forefront of retirement planning lately as traditional pension plans have been replaced by 401(k) plans, individual retirement accounts (IRA), and other “defined contribution plans” for which there is no guarantee that the balance will last a lifetime.  While the concept of an annuity may be simple – payment of an amount in return for a guarantee of a certain annual or monthly amount for the life of the annuitant, the types of annuities now on the market, as well as the ways in which they may be held, has made for a certain amount of confusion.

Generally, annuity payments include income and are taxable to the annuitant. The income earned on the contract is not taxable until payments are made. However, income on an annuity contract is taxable as it is earned if the annuity is not held by a natural person.  Furthermore, an individual who transfers an annuity contract without full and adequate consideration is taxable on the transfer.

Transfers in trust

A taxpayer recently wanted to transfer an annuity that he owned into a trust for wealth planning purposes, but justifiably was concerned that such a transfer might trigger a “taxable event” that would accelerate the tax liability that would otherwise be spread out over future annuity payments.  Here are the details that necessarily are a bit complicated because of the estate planning goals that were to be achieved:

Husband established a grantor trust for his Wife and six beneficiaries who are their descendants. On Husband’s death, the Wife became sole trustee. The trust was divided into sub-trusts: Trust A for the Wife, and Trust B for all other property. Wife may also use Trust B for her benefit or the beneficiaries. When Wife dies, Trust B will be divided and distributed to the beneficiaries.

Wife intends to purchase flexible premium deferred annuity contracts, naming each beneficiary as the annuitant on one contract, in proportion to the beneficiary’s residuary share in the trust. The contracts are substantially the same except for the annuity dates. The trust will be the owner and beneficiary of the contracts but does not expect to take any distributions from them.

Upon final trust distribution, an annuity contract will be distributed to the beneficiary/annuitant. The trust will not receive any consideration for the contracts. Husband established a grantor trust for his Wife and six beneficiaries who are their descendants. On Husband’s death, the Wife became sole trustee. The trust was divided into sub-trusts: Trust A for the Wife, and Trust B for all other property. Wife may also use Trust B for her benefit or the beneficiaries. When Wife dies, Trust B will be divided and distributed to the beneficiaries.

Favorable IRS rulings

The first issue before the IRS was whether a trust could be considered a “natural person.”  The IRS determined that the contracts will be treated as owned by natural persons because the beneficial interests are owned by natural persons in a non-employment context.  As a result, the tax on the income built in within the annuity could be deferred.

Second, would the transfer to the trust itself be considered a a taxable event.  Again, the IRS ruled favorably.  The transfer of the contracts to the beneficiaries was not an assignment without full and adequate consideration and does not accelerate taxation, the IRS determined.

LTR 201124008

IRS, FinCEN provide more foreign account filing extensions

The IRS and Treasury’s Financial Crimes Enforcement Network (FinCEN) have announced new extensions for certain filers to file Form TD F 90-22.1, Report of Foreign Bank and Financial Accounts (known as the “FBAR”).  At the same time, the IRS has suspended filing requirements under the Foreign Account Tax Compliance Act (FATCA) title of the Hiring Incentives to Restore Employment (HIRE) Act of 2010 for certain filers.

Reporting requirements

U.S. taxpayers may be required to report their foreign accounts under the long-standing FBAR rules or the new FATCA rules. In February 2010, FinCEN issued final FBAR regulations.  The IRS is currently developing FATCA rules.

FBAR extensions

In recent months, the IRS and FinCEN discovered that some taxpayers have experienced difficulties in meeting the FBAR deadlines. In response, the IRS provided an extended filing deadline (November 1, 2011) for filers having signature authority over, but no financial interest in, a foreign account in 2009 or earlier years for which the reporting deadline had been extended by Notice 2009-62 or Notice 2010-23.

FinCEN has extended the filing deadline for calendar year 2010 FBARs to June 30, 2012 for officers and employees of investment advisors that have signature authority over, but no financial interest in, foreign accounts of persons that are no registered investment companies under the Investment Company Act of 1940. Earlier in 2011, FinCEN extended the filing deadline for 2010 FBARs for certain financial professionals.

FATCA forms

Taxpayers will use new Form 8938, Statement of Foreign Financial Assets to report under FATCA. However, the IRS has not yet published Form 8938. Therefore, the IRS has suspended the filing requirement until it publishes Form 8938. The IRS also has suspended the filing requirement under FATCA for Form 8621, Return by a Shareholder of a Passive Foreign Investment Company or Qualified Electing Fund, until that form is revised. After the forms are released, taxpayers will be required to file the forms for the year in which the filing requirement was suspended.

If you have questions about the FBAR or FATCA filing requirements, please contact our office.

IRS makes mid-year adjustment to mileage rates

For the third time in six years, the IRS has announced a mid-year increase in the business standard mileage rate to reflect higher gasoline prices. The business mileage rate increases by 4.5 cents, rising from 51 cents-per-mile to 55.5 cents-per-mile for all business miles driven during the second half of 2011. The medical/moving mileage rate also increases by 4.5 cents-per-mile for the final six months of 2011 but the charitable mileage rate, set by Congress, remains unchanged.

Mileage rates

Taxpayers that use the standard mileage rate method calculate the fixed and operating costs of their automobiles, light trucks or vans by multiplying the number of business miles traveled during the year by the business standard mileage rate. Using the standard mileage rate generally takes the place of deducting many of the operating costs of a vehicle. With certain exceptions, the standard mileage rate is generally available to all taxpayers. One important exception applies to five or more vehicles used simultaneously, as in fleet-type operations.

Rising gas prices

The IRS traditionally sets the mileage rate for the current year at the end of the preceding year.  In December 2010, the IRS announced that the business standard mileage rate would be 51 cents-per-mile for calendar year 2011 and the medical/moving standard mileage rate would be 19 cents-per-mile for 2011. The charitable mileage rate, at 14 cents-per-mile would remain unchanged for 2011.

In May 2011, a bipartisan group of lawmakers encouraged the IRS to raise the 2011 mileage rates to reflect higher gasoline prices.  The IRS previously raised the mileage rates in mid-year 2008 and in mid-year 2005 because of spikes in gasoline prices. Gasoline prices are one factor that the IRS takes into account in determining the rates.

Mid-year adjustment

“This year’s increased gas prices are having a major impact on individual Americans. The IRS is adjusting the standard mileage rates to better reflect the recent increase in gasoline prices,” IRS Commissioner Douglas Shulman said in announcing the mid-year rate change.

Effective July 1, 2011, the business standard mileage rate increases from 51 cents-per-mile to 55.5 cents-per-mile for business miles driven on or after July 1, 2011 and on or before December 31, 2011.  The medical/moving standard mileage rate increases from 19 cents-per-mile to 23.5 cents-per-mile for the same period. However, the charitable standard mileage rate is unchanged at 14 cents-per-mile for the final six months of 2011.

If you have any questions about the mid-year mileage rate adjustment, how to use the standard mileage rates or the actual expense method, please contact our office.

IR-2011-69, Ann. 2011-40