Tag Archive: tax

Specific share identification mutual fund redemption at Vanguard

Background

Many investors are aware that when they sell a mutual fund or stock with a gain, they have to pay capital gains taxes for it. On the other hand, if they sell with a loss, they can claim a tax loss on it, as long as the transaction does not run foul of the wash sale rule. Fairmark has an extensive section “Capital Gains and Losses 101” that covers this in detail.

Unless an investor is selling the entire holding, it is usually best to identify specifically which shares are being sold. However, the identification part is somewhat confusing. The following paragraph from Fairmark explains why this is so:

The traditional way to specify the shares you’re selling is in the form of an instruction to your broker:

Sell 50 shares XYZ from the lot purchased on March 12, 2005.

This makes it sound like the broker has to do something special — possibly locate those specific shares, or at least make a record of some kind indicating what shares you sold. Some brokers will tell you “we don’t offer that service.” But in reality the only thing the broker has to do, besides executing the sale transaction in the normal way, is send you a written confirmation that you specified shares from the lot purchased on March 12, 2005.

This post is a review of my experience with specific share identification mutual fund redemption with Vanguard.

The Process

Prior to the day of redemption, I created a list of the tax lots I wanted to sell. These are basically the tax lots which have the highest cost basis and which will give me the maximum capital gain loss which I can claim on my tax return next year.

I then created the following message (which is a variant of the message, as suggested by seugene, from reference [1])

Subject: Specific Identification Sale of Mutual Fund

Dear Vanguard,

This is to inform you that for the following trade(s) placed today in my taxable joint account, I want to use the specific share identification method for capital gains calculation.

(A) Vanguard Total Stock Market Index Admiral Fund VTSAX, redeeming XXX.YYY shares from the following lots:

1) MM/DD/YY XX.YYY shares
2) MM/DD/YY XX.YYY shares

I understand that I am responsible for tracking my cost basis.

Please acknowledge that you have received this message.

Thank you.

Dated MM/DD/YYYY.

On the day of the redemption, I sent the above message via a secure email to Vanguard and then placed the sale of the specified number of shares online as per usual.

A few days later, I received the following confirmation:

Dear indexfundfan:

Thank you for your e-mail regarding your desire to use the specific share identification method (as defined in the Internal Revenue Code) for purposes of determining your cost basis. I am responding on behalf of your Flagship representative, XXX.

We acknowledge receiving your specifications, identifying the particular shares purchased on several dates to be redeemed from your Vanguard Total Stock Market Index Admiral Fund in the account #XXX. To assist you in making an adequate identification of such shares, we are confirming your specifications as outlined below in accordance with federal regulation section 1.1012-1(c)(3) of the Internal Revenue Code.

You are redeeming XXX.YYY shares from the following lots purchased on the following dates:

1) MM/DD/YY XX.YYY shares
2) MM/DD/YY XX.YYY shares

In the event you were using a different method to determine cost basis (for example, average cost method), you may need written consent from the Internal Revenue Service (IRS) to change to the specific share identification method. Consult your tax adviser if you have any questions concerning tax reporting methods or for additional assistance.

Please be advised that Vanguard’s recordkeeping systems support the average cost basis method of basis determination, not the specific share identification method. Therefore, it is your responsibility to keep sufficient records to support your basis determination under the method you have chosen, including but not limited to tracking the cost and related gain or loss of shares [exchanged, redeemed] for purposes of reporting that information to the IRS.

Additionally, since you are using the specific share identification method for tax reporting, any average cost basis statement that you may receive from Vanguard for this fund and account should be disregarded.

I have forwarded a copy of this e-mail to your representative. If you have any further questions, you may contact your Flagship Representative at 1-800-XXX, extension XXX. If your representative is unavailable at the time of your call, the next available trained representative will be happy to assist you. If you prefer, you may ask to be transferred to his voice mail. He will promptly return your call.

Flagship’s business hours are Monday to Friday from 8 a.m. to 10 p.m. and Saturdays from 9 a.m. to 4 p.m. Eastern time. You may also feel free to visit our website at www.vanguard.com, 24 hours a day, 7 days a week.

Sincerely,

XXX
Registered Representative
Vanguard Flagship Services

I printed a copy of the above to PDF and save it together with the secure email I had sent out a few days earlier.

That’s it. I now have a written confirmation that the brokerage had received my instructions to redeem specific shares of my mutual fund.

PS. The Fairmark article linked above has a brief section discussing the “legality” of whether an email confirmation (versus a paper confirmation) is sufficient. For my personal records, I am inclined to think that the secure email is sufficient, but another person’s situation could be different.

Reference

[1] Boglehead forum discussion.

Tax harvesting from 529 plan?

If you started contributing to a 529 plan some time in 2007, the chances are that the plan is in the RED (with capital losses) due to the recent stock market conditions.

A thought came to my mind — since unqualified distributions from the 529 plan are taxable, is it possible to tax harvest from the 529 plan?

I asked this question on the Bogleheads forum, and here’s a reply from LH2004 (who had previously demonstrated to have very good knowledge on tax matters):

Yes. See “Losses on QTP Investments” in Publication 970. You’ll be subject to the 2% of AGI floor, though, so you’ll need to have really extreme losses, or a big account, or low AGI, or other miscellaneous itemized deductions to reach that floor.

Alternatively, under the IRS’s new theory regarding wash sales, you could take the position that a sale of an individual portfolio in the 529 plan at a loss, followed by a purchase of a substantially identical fund in your taxable account, is a wash sale, increasing your basis in the newly-purchased fund, which you could then immediately sell at a loss; that would be an aggressive position to take.

Taylor Larimore kindly found the link to the relevant section in Publication 970 — http://www.irs.gov/publications/p970/ch08.htm :

Losses on QTP Investments

If you have a loss on your investment in a QTP account, you may be able to take the loss on your income tax return. You can take the loss only when all amounts from that account have been distributed and the total distributions are less than your unrecovered basis. Your basis is the total amount of contributions to that QTP account. You claim the loss as a miscellaneous itemized deduction on Schedule A (Form 1040), line 23, subject to the 2%-of-adjusted-gross-income limit.

If you have distributions from more than one QTP account during a year, you must combine the information (amount of distribution, basis, etc.) from all such accounts in order to determine your taxable earnings for the year. By doing this, the loss from one QTP account reduces the distributed earnings (if any) from any other QTP accounts.

At this point, it doesn’t look like something I would do.

Sogoinvest did not classify qualified dividends

Last year, I invested in a few ETFs using Sogoinvest and these ETFs had some income dividends distributions.

After I received the 1099DIV form from Sogoinvest, I noticed that all the dividends are classified as ordinary dividends, none of them are classified as qualified dividends. Also, for my VWO (Vanguard Emerging Market ETF) holding, the foreign taxes paid are not declared in the 1099DIV form. I know these are incorrect because the same ETF holdings held at Ameritrade had qualified dividends and foreign taxes paid declared in the 1099DIV form.

These incorrect figures are not good for me or investors in general because the tax rate for a qualified dividend distribution is typically only 15%, whereas the tax rate for an unqualified dividend can run as high as 35%. In addition, any foreign taxes paid by the fund can be claimed back as a credit in the tax return, dollar-for-dollar.

I requested Sogoinvest through their secure message system to issue me an updated 1099DIV. Here’s their “canned” reply:

We will look into this, the 1099 statements reflect what the IRS gave to us. So we will look into this and get it corrected if it needs to be as soon as possible.

Huh? I thought it is Sogoinvest who reports the dividend information to the IRS instead of the other way round? Anyway, I did not try to argue with them on this point.

I was not hopeful that I would get an updated 1099DIV on time, but there is nothing much I could do but to wait for an update. I also sent them a reminder some time after my original request. Then came April 14, but nothing. In the end, I filed my taxes without an updated 1099DIV, paying more in taxes than I actually need to. By my estimate, I probably paid about $50 more in taxes because of the inaccuracies in the 1099DIV form generated by Sogoinvest.

I do not know if this is an isolated case of an incorrect 1099DIV form, but if the qualified dividends and foreign taxes paid are generally not reported by Sogoinvest, then it will be a very big turn-off indeed.

Related links [1] [2] [3].