A vital principle in financial accounting is the importance of verifiable and objective reporting. A major problem with the 1099-B is that it fails to provide verifiable reporting. The 1099-B provides subjective information with limited details. For this reason the 1099-B if often useless to active traders and their CPAs. Why do we say the 1099-B is not verifiable?
In order to be verifiable a report must contain sufficient information that an independent party can confirm the reporting is factual. What is reported on the 1099-B? Typically it reports for each trade which was closed in the tax year: description, CUSIP, ticker symbol, date acquired, date sold, quantity, sales price, cost basis, and wash sale disallowed loss.
Now that seems like a lot of information, and you would think that this is everything a taxpayer would need for tax reporting. But there is one major problem with the information reported: the broker is required to report limited wash sale adjustments.
Wash sale adjustments can affect cost basis amounts as well as date of acquisition. Therefore, if there are any wash sales reported on the 1099-B, then the cost basis reported, as well as some acquisition dates, may be adjusted and therefore not match with trade history records kept by the taxpayer. The broker is not required to report additional details that explain what adjustments have been made, or the original cost basis and acquisition dates. Therefore, it is often impossible to verify the 1099-B independently. We discuss this problem in our special report The 1099-B Problem: Why IRS Regulations Have Failed to Meet Cost Basis Reporting Needs. On page 13 of that report we give the example shown below:
In this example, we have taken an excerpt from a broker provided 1099-B statement. The broker is reporting information for trades of NVIDIA Corporation (NVDA).
Notice in the example that the first five lines have wash sale losses disallowed. For each of those disallowed losses a cost basis amount has been adjusted somewhere - but where? The 1099-B does not specify which trade(s) have been adjusted or the amount of the adjustment. As a result the taxpayer cannot verify the cost basis or the adjustments that are reported.
Adding to that challenge are the acquisition dates. Since the wash sale adjustments affect holding period, the broker has adjusted some of the acquisition dates to reflect the new holding period. If the taxpayer tries to look up each purchase on their brokerage statement of trade history they may not be able to do so.
And the problem gets worse. The IRS regulations require taxpayers to make additional wash sale adjustments not required by the broker. For example, if this taxpayer also traded NVDA in another account, or in an IRA account, or if they traded options on NVDA, then they possibly have additional wash sales that need to be adjusted for. Again, since the broker is not required to provide all the details about whether a trade has been adjusted for a wash sale, it is impossible to determine which trades on this report could trigger additional wash sales.
There is something else interesting in this example. Notice there is a $7.66 disallowed loss on 11/01/2012. If you subtract the cost basis from the sale proceeds you’ll get a net gain of $78.02. How can there be a disallowed wash sale loss and a trade that reports a gain? The 1099-B reported information will not answer this question because there are insufficient details. Therefore, this could appear to be an error. However, there is a clue to the problem that can be found when you notice the missing date of acquisition for that line. We were able to do further research to find that the 4,000 shares sold on 11/1/2012 were bought in three different lots - different cost basis and different acquisition dates. Brokers are allowed to group together multiple lots that are sold at the same time, despite the fact that this makes verification even more impossible.
In The 1099-B Problem special report we show why the IRS regulations for 1099-B reporting are seriously flawed. In order to provide active traders accurate and verifiable cost basis information, the 1099-B should report unadjusted facts. This includes actual cost basis and actual acquisition dates. In addition, brokers should be required to match trades based on lots bought and sold, rather than grouping trades together if sold on the same date.
Verifiable trade history reporting is essential for active traders and investors to generate accurate tax returns for capital gains and losses. How do we know? Because since 1999 TradeLog software has been generating trader tax reporting using actual trade history. It has been the only proven method to generate Schedule D reporting based on IRS rules for taxpayers.
We have published more information about The 1099-B Problem and TradeLog software on our website. Learn more by reading the special report and other resources provided.
Please note: This information is provided only as a general guide and is not to be taken as official IRS instructions. Cogenta Computing, Inc. does not make investment recommendations nor provide financial, tax or legal advice. You are solely responsible for your investment and tax reporting decisions. Please consult your tax advisor or accountant to discuss your specific situation.