| Other Methods for Mutual Funds |
Before 2011, only four cost basis accounting methods were approved by the IRS. The new cost basis reporting regulations specifies that the double category method has been discontinued (as of 4/1/2011.)
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Under the new cost basis reporting regulations, many more methods will now be recognized as valid; the only practical limit will be how many your brokerage firm can program into their trading system. In the past, you always had the ability to achieve these same methods by applying the specific identification rules in the manner described. However, now you can specify to your brokerage firm which pattern or scheme you want to use. You can choose a method or accept the default method used by your brokerage firm or mutual fund company. Your choice of method must be made in writing or electronically, not verbally. You can also change your default method at any time (for future trades) or for any specific trade. Cost basis allocation formulas available from 2011 include:
1. Specific Identification - Gives you the most flexibility but you must have your identifying information ready before you place the trade.
2. Average Cost Single Category - Simplifies recordkeeping for many tax lots which are all averaged together.
3. FIFO: First In First Out - This method would lead to higher capital gain taxes, since stock prices tend to rise over long periods of time so your earliest tax lots would have the lowest prices. This is usually the default method chosen by brokerage firms.
4. LIFO: Last In First Out - As a general rule, this method would lead to lower capital gains, since stock prices tend to rise over long periods of time. Theoretically, your higher cost basis tax lots (purchased last) would be used first.
5. HIFO: Highest Cost In First Out - Tax lots are selected to minimize gain or maximize loss, without regard to whether it is short-term or long-term in nature.
6. HCLT: Highest Cost Long Term - Tax lots are selected to minimize long-term gain or maximize long-term loss.
7. HCST: Highest Cost Short Term - Tax lots are selected to minimize short-term gain or maximize short-term loss.
8. LCFO: Lowest Cost First Out - Lots are selected that will maximize gain or minimize loss, without regard to whether the lot produces a short-term or long-term effect.
9. LCLT: Lowest Cost Long Term - Lots are selected that will maximize long-term gain or minimize long-term loss.
10. LCST: Lowest Cost Short Term - Lots are selected that will maximize short-term gain or minimize short-term loss.
11. MLMG: Maximum Loss Minimum Gain - lots are applied in order of size of the gain or loss but short-term versus long-term is ignored.
12. Tax Optimization Method - Lots are applied in the following order (all in order of magnitude with greatest losses used first and greatest gains used last):
a. Short-term losses.
b. Long-term losses.
c. Short-term, no gain or loss.
d. Long-term, no gain or loss.
e. Long-term gains.
f. Short-term gains.
13. Anything else they can dream up and figure out a way to program!
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