Question on tax basis and capital gains on stock sale

[gettingthere]

The only individual stocks I have ever owned are those purchased in employee stock purchase plans. I have never sold any stock until last year, so I am a novice at dealing with capital gains, and could use some help.

I started investing in my former employer’s company’s stock by payroll deduction 20+ years ago, and continued for some years. I have a record of all of the transactions, dividends and stock splits along the way. I stopped investing at some point, and left that company, but kept the stock and reinvested all dividends.

Well, at the end of 2007 that company was bought out, and I sold the stock. I sold 500 shares in December 2007, and the remaining in early January 2008 (about 1000 shares).

All shares had been held for over a year except the shares purchased via dividend reinvestment during 2007 (about 40 shares).

How do I report the sale and figure the basis and capital gains? I don't think I want to go the route of identifying individual shares due to the large number of transactions over the years - I think agerage price is what I want.

Would the 500 shares sold in 2007 be 460 long term and 40 short term? Or would all 500 shares sold in 2007 be long term, and the 1000 sold in 2008 transaction include be 960 LT and 40 ST?

Do I calculate the basis for all 1500 shares as the number of shares times the average price of all 1500 shares? Or would the basis for the 40 short term be just based on their actual purchase price, and the basis for all long term shares be based on the average price of those shares purchased 2006 and earlier?

Thanks.

[gindie]

Check out the article at: Calculating Taxes on Stock Sales (Tax Guide: Personal Finance) | SmartMoney.com

The gist of the article is that with stock sales you don't have the option to "average" your basis. That's only available for mutual funds. Therefore, you must compute the basis/gain of each share purchase individually.

Also, if you didn't specifically identify shares at the time of the sale, then you must use FIFO (i.e. the oldest shares are sold first).

So, in your case, the 500 shares you sold in '07 would be the oldest that you owned. All of them would be Long Term gains, but, as mentioned above, you must compute the gain on them individually.

Of the 1000 you sold in '08, the oldest 960 would be LT, the newest 40 would be ST. However, since the transaction was in '08, you don't account for these 1000 until next tax season. Keep your records!

Hope this helps.

[LOL!]

THis is real easy. Use TT or just look at Schedule D.
You have 2 transactions that get divided up into 3 lines on Schedule D.

The first 500 shares are one transaction. You just need to add up the total amount you paid for your first 500 shares and that's you cost basis. The date purchased is "various". You know the date sold.

The second 1000 shares gets divided into 2 lines/transactions. Just add up the price you paid for the shares held more than year when you sold them (about 960) and that's your cost basis for these long term shares. The date purchased is also "various". These 2 transactions are in the LongTerm section of the Schedule D.

Once again you can figure the cost basis of the remaining ~40 shares. If purchased on more than one date, you can use "various" as well, but they go in the short term section of schedule D.

Note that even if you were figuring out average cost basis, you would still have to add up the amount you paid for all your shares, so there is no extra work not being able to do average cost basis.

The IRS publication on this has examples as well.

[gettingthere]

Thanks for your response LOL.

I am a bit fuzzy on how the FIFO basis works when taking splits into consideration.

In September 1997 I had a total of 336 shares at a total cost to me of $6,138.00. In October 1997 there was a 2 for 1 split leaving me with 672 shares. My basis for the 336 shares was $6,138.00. Then my basis for the 672 shares was still $6,138.00.

So my first 500 shares would have a basis of $6,138.00/672 * 500 ? Or is that considered average cost rather than FIFO? Would the real FIFO basis for the 500 be $6,138.00? An then the remaining 172 of those 672 shares be at zero basis?

There were several other splits through the years, but none in 2007, so the cost of the 40 is easy to figure, and the 1000 would be the difference between the total I paid overall, less the 40, less whatever the basis is for the 500, right?

[gettingthere]

Thank you also, gindie. I thought I had an option of average cost on stocks as well, but I see I was wrong.

Thanks for the link, too. After reading through that, though, I am still wondering about the basis of my first 500 shares, as explained in my post above - my shares jumped from 336 to 672 as the result of a split.

[SecondCor521]

Quote:

Originally Posted by gettingthere Thanks for your response LOL. I am a bit fuzzy on how the FIFO basis works when taking splits into consideration. In September 1997 I had a total of 336 shares at a total cost to me of $6,138.00. In October 1997 there was a 2 for 1 split leaving me with 672 shares. My basis for the 336 shares was $6,138.00. Then my basis for the 672 shares was still $6,138.00. So my first 500 shares would have a basis of $6,138.00/672 * 500 ? Or is that considered average cost rather than FIFO? Would the real FIFO basis for the 500 be $6,138.00? An then the remaining 172 of those 672 shares be at zero basis? There were several other splits through the years, but none in 2007, so the cost of the 40 is easy to figure, and the 1000 would be the difference between the total I paid overall, less the 40, less whatever the basis is for the 500, right?

FIFO means "First In First Out" and is a method of identifying, when it is unclear, which shares were actually sold. It means that, since you didn't say at the time you sold them which specific shares you were selling, the IRS assumes you sold the oldest shares each time you made a sale.

In the case you gave, your first 500 shares would have a basis of $6138/672*500, as you stated. (The remaining 672-500=172 shares would have a basis of $6138/672*172.)

The basis for the ~1,000 shares is whatever you paid for them. If you know what your total cost for all ~1,500 shares is, you can just subtract the basis for the first 500 shares and the result would be your basis for the ~1,000 shares. You would then figure out the basis for the 40 shares from your records and subtract that amount from your basis for the ~1,000 shares to determine what to use as the basis for the ~960 share sale line on your schedule D.

One important thing to note which you may not be aware of. Those reinvested dividends add to your basis, so be sure to add those dollar amounts into your costs. This will reduce the amount of taxes you owe, possibly quite significantly.

2Cor521

[kaneohe]

I have the feeling you are still cost averaging. What is the significance of the 1997 date? Had you made just one purchase prior to that? In most stock purchase plans I am familiar with, you purchase once per quarter which would suggest you probably made 20 to 40 purchases before you left the company? I would think you would have to adjust each of those purchases for the stock splits to get the new equivalent shares and then add up those shares, starting w/ the earliest purchases until you got to the 500 shares you sold first. Not difficult in concept but can get a bit confusing if there are a lot of splits.

I'm considering holding mine forever so the kid can just take the step in basis and I won't have to worry about calculating this because the longer I wait, the messier it gets.

[RunningBum]

If these shares were bought through an ESPP program at a discount, the discount value will be ordinary income rather than capital gain. Unfortunately it is a pretty good amount of paperwork, and basically comes down to reporting each purchase date as a separate sale.

The way I've had it explained, let's say you get stock at a 15% discount. Many ESPP programs work in a window, for example, 6 months, and at the end of the 6 months you get stock at a 15% discount of the lower price of the first and last days of the window. So if the price was $10 at the start of the 6 months and $12 at the end, you pay $8.50 per share. If you sell it after the qualifying period (the longer of 2 years after the start of the window or 1 year after the purchase date) for $25, $1.50 is ordinary income, and $15 is long term cap gains.

If you sell it before the qualifying date the ordinary income is greater, I think it is $12-8.50 or $3.50/share, and the rest is cap gains.

The dividends weren't bought at a discount so those are handled like regular stock purchases, but you have to find what price you purchased each share at. As someone else pointed out, you don't want to just lump it all in because you already paid tax on the dividend, and you reinvested that in stock rather than put it in your pocket.

[gettingthere]

Thank you all for your responses–– I have records of every transaction over the years and thought I understood the basis, but maybe not.

Quote:

Originally Posted by kaneohe I have the feeling you are still cost averaging. What is the significance of the 1997 date? Had you made just one purchase prior to that? In most stock purchase plans I am familiar with, you purchase once per quarter which would suggest you probably made 20 to 40 purchases before you left the company? I would think you would have to adjust each of those purchases for the stock splits to get the new equivalent shares and then add up those shares, starting w/ the earliest purchases until you got to the 500 shares you sold first. Not difficult in concept but can get a bit confusing if there are a lot of splits.

The significance of the 1997 date is that the first 500 shares that I sold came as a result of a split in 1997. Up until that split, I had accumulated 372 shares through purchases, reinvested dividends and stock dividends, for a total cost basis of $6138. Then there was a 2 for 1 split, resulting in 672 shares. My sale of 500 shares would be from this 672, but because of the split, it was not apparent to me how to figure the basis of just 500 shares. I understand the 672 shares resulting from the 2 for 1 split of 372 shares would have the same basis as the 372 shares, but I was unclear about how to calculate the basis for just 500 of those shares.

Quote:

Originally Posted by SecondCor521 In the case you gave, your first 500 shares would have a basis of $6138/672*500, as you stated. (The remaining 672-500=172 shares would have a basis of $6138/672*172.) The basis for the ~1,000 shares is whatever you paid for them. If you know what your total cost for all ~1,500 shares is, you can just subtract the basis for the first 500 shares and the result would be your basis for the ~1,000 shares. You would then figure out the basis for the 40 shares from your records and subtract that amount from your basis for the ~1,000 shares to determine what to use as the basis for the ~960 share sale line on your schedule D. One important thing to note which you may not be aware of. Those reinvested dividends add to your basis, so be sure to add those dollar amounts into your costs. This will reduce the amount of taxes you owe, possibly quite significantly.

Thanks, this makes sense to use $6138/672*500 as basis for the first 500 shares. And with that, then, I will have no problem computing the basis for the 960.

The $6138 basis for the stock purchased up until 9/97 (372 shares) includes the reinvested dividends.

Quote:

Originally Posted by RunningBum If these shares were bought through an ESPP program at a discount, the discount value will be ordinary income rather than capital gain. Unfortunately it is a pretty good amount of paperwork, and basically comes down to reporting each purchase date as a separate sale.

Quote:

Originally Posted by RunningBum The way I've had it explained, let's say you get stock at a 15% discount. Many ESPP programs work in a window, for example, 6 months, and at the end of the 6 months you get stock at a 15% discount of the lower price of the first and last days of the window. So if the price was $10 at the start of the 6 months and $12 at the end, you pay $8.50 per share. If you sell it after the qualifying period (the longer of 2 years after the start of the window or 1 year after the purchase date) for $25, $1.50 is ordinary income, and $15 is long term cap gains. If you sell it before the qualifying date the ordinary income is greater, I think it is $12-8.50 or $3.50/share, and the rest is cap gains. The dividends weren't bought at a discount so those are handled like regular stock purchases, but you have to find what price you purchased each share at. As someone else pointed out, you don't want to just lump it all in because you already paid tax on the dividend, and you reinvested that in stock rather than put it in your pocket.

The shares were purchased at a 10% discount. But the discount amount has been handled right along as ordinary income, appearing on my paystubs and W2 each year, and I have paid taxes on that right along. Each pay period, the discount I received appeared on my paystub as additional compensation, and taxes were withheld. Therefore, in calculating the basis, I have used the undiscounted share price.

For instance, my very first purchase was of 39.324 shares at a discounted price of 25.4300 ($1000). The market price was 28.2500. I consider the basis for these shares to be $1110.90 (39.324 * 25.4300). The $110.90 appeared as additional compensation on my next paystub, and taxes were withheld. In addition to my salary that year, my W2 showed additional compensation of $110.90.

Following that initial purchase, I had money withheld from my bi-weekly paycheck. The ESPP plan accumulated my funds and any dividends, and purchased shares with the accumulated funds on a monthly basis at a 10% discount – the reinvested dividends received the 10%discount as well as my withheld funds. Each payperiod during which there had been a stock purchase, my paystub included the discount received.

Additionally, for the first few years, there were annual stock dividends. I have figured the shares received from the stock dividends as I would a stock split – they did not increase my total basis, but effectively reduced my per-share basis.

Also several times through the years a stock split occurred. Again, the shares acquired in the stock splits did not increase my total basis, but effectively reduced my per-share basis.

I received a 1099-DIV each year for the dividends, and paid taxes on that each year.

I discontinued the payroll investment in 1991, but continued with the dividend reinvestment. Dividends reinvested continued to be at a 10% discount until the company was bought out by another in 1999. At that time, my shares in the old company were converted to new company shares (no change to basis). I kept the stock in the new company and continued to reinvest dividends, but no longer received a discount. Also, with the new company, a small commission began being charged for each purchase. I have included that amount as well in my basis.

I really appreciate you all taking the time to educate me. This forum is full of helpful kind souls.

[kaneohe]

Here's a simplified model of what it sounds like you have

date 1 buy 200 sh basis 100
date 2 buy 200 sh basis 500
split 2:1

restate original purchases in terms of new shares
date 1 buy 400 sh basis 100
date 2 buy 400 sh basis 500

date 3 sell 500 sh (since FiFO, you are selling the first 400 w/ basis 100
and 100 w/ basis 125 from the second group for a total basis of 225

Alt calculation: first 2 groups have 800 shares with basis of 600
If you prorate selling 500 sh from the total group of 800, your
basis is 375. Your basis is higher because, basically, you are averaging
the first 2 groups together rather than doing a true FIFO. In practice
depending on how volatile the stock has been, there may or may not be
a large difference in the 2 calculations.

[gettingthere]

Quote:

Originally Posted by kaneohe In practice depending on how volatile the stock has been, there may or may not be a large difference in the 2 calculations.

OK, I tried the two caclulations, and the basis figures out to about $150 less with the "restated purchase" method than with the "alt calculation". This amounts to less than 1% of the total sale amount for 2007.

Are both methods acceptable to the IRS? Is one method more correct?

What I don't include as basis in this year's sale will end up in next year's basis, so I'll pay the same total capital gains tax between the 2007 and 2008 sales either way.

[SecondCor521]

Quote:

Originally Posted by gettingthere OK, I tried the two caclulations, and the basis figures out to about $150 less with the "restated purchase" method than with the "alt calculation". This amounts to less than 1% of the total sale amount for 2007. Are both methods acceptable to the IRS? Is one method more correct? What I don't include as basis in this year's sale will end up in next year's basis, so I'll pay the same total capital gains tax between the 2007 and 2008 sales either way.

No, both methods are not acceptable to the IRS. The first method is correct, the "alt calculation" method is not.

2Cor521

[gettingthere]

Quote:

Originally Posted by SecondCor521 No, both methods are not acceptable to the IRS. The first method is correct, the "alt calculation" method is not. 2Cor521

OK, now I am (more) confused - I must be missing something. I had 336 shares for a total basis of $6138, then a 2 for 1 split resulted in 672 shares for a total basis of $6182. I am trying to figure the basis of my first 500 shares.


2Cor521, in your earlier response, the method seems to me to be the the equivalent of what kaneohe described as "Alt calculation", rather than his first method given that included "restate original purchases in terms of new shares" .

Quote:

Originally Posted by SecondCor521 In the case you gave, your first 500 shares would have a basis of $6138/672*500, as you stated. (The remaining 672-500=172 shares would have a basis of $6138/672*172.)

Quote:

Originally Posted by kaneohe Here's a simplified model of what it sounds like you have date 1 buy 200 sh basis 100 date 2 buy 200 sh basis 500 split 2:1 restate original purchases in terms of new shares date 1 buy 400 sh basis 100 date 2 buy 400 sh basis 500 date 3 sell 500 sh (since FiFO, you are selling the first 400 w/ basis 100 and 100 w/ basis 125 from the second group for a total basis of 225 Alt calculation: first 2 groups have 800 shares with basis of 600 If you prorate selling 500 sh from the total group of 800, your basis is 375. Your basis is higher because, basically, you are averaging the first 2 groups together rather than doing a true FIFO. In practice depending on how volatile the stock has been, there may or may not be a large difference in the 2 calculations.

[kaneohe]

Quote:

Originally Posted by SecondCor521 No, both methods are not acceptable to the IRS. The first method is correct, the "alt calculation" method is not. 2Cor521

GettingThere..... I agree w/2C521 and sorry for the confusion. I wasn't
proposing the alt calculation as necessarily acceptable. Was just trying to
see how much different the result was. The example given was an exaggerated example to magnify the difference in the 2 calculations.
Not likely that the stock would go up 5x.

I think you understand the principles so just go do it. And I agree with you
that in the end the overall result would end up similar doing it both ways....
pay less taxes the first yr but more the second. Just that one is more technically correct.

I hope you don't have to do a cash-in-lieu calculation where a spinoff is
made and you end up w/ a fractional share which is automaticallly sold
for maybe $10-20. Then you spend $100 of your time calculating a
capital gain which might be worth at most $3 to Uncle Sam. I never learned from my boss how to spend time on the right thing. Instead I always insisted on doing things right even if they weren't worth spending time on. Guess that's why he was the boss. But they were interesting
to think about.

[SecondCor521]

getting there,

The last paragraph that kaneohe wrote, where he uses the term "prorate", is unacceptable to the IRS as a method of calculating basis for common stock. The way I described originally is correct, and I believe matches what kaneohe is saying from the beginning of his post through "total basis of 225".

Sorry for the confusion.

2Cor521

[gettingthere]

I think I've got it now.

Thank you all very much for the education.