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Accounting Enhancements Take the Taxing Out of Taxes

Cost-basis accounting and tax-losses selling just became a whole lot less burdensome.

Beginning last week, PFPC of Wilmington, Del., began offering an enhanced cost-basis accounting module to brokerage firms that buy mutual fund shares for customers and then establish individual accounts for them in the name of that brokerage firm, often referred to as "street name" accounts.

PFPC's new cost-basis accounting system can automatically calculate gains and losses that are realized at the time of a fund redemption based upon the various prices of shares previously purchased in the account, included dividends which are automatically reinvested.

The PFPC system relies on the average cost-basis accounting methodology and allows brokerage firm users of PFPC's AdvisorCentral portal to access the information online. PFPC is co-owner of AdvisorCentral, which debuted last November, along with fund firms Fidelity Investments and Putnam Investments, both of Boston, and Franklin Templeton of San Mateo, Calif.

The system will also allow brokers to track cost-basis information where transactions such as fund mergers, stock splits and exchanges have taken place. Those account details can often be lost along the way as mutual fund accounts age, but are necessary to brokers and fund investors in completing the Schedule D that must accompany investors' annual tax return. Cost-basis information is used to determine an investor's taxable gain or loss and can help manage individual tax liabilities.

Street name accounts are registered directly in the name of the brokerage firm that purchased shares of the fund account for clients, and typically include only the investor's brokerage firm account number without the actual name or identity of the investor. By their very nature, these accounts are controlled entirely by the brokerage firm. Often, these brokerages will handle clients' tax reporting, too.

PFPC is also making the cost-basis capability available as a separate component for its mutual fund clients to build into their own proprietary Web site's adviser-only section. Additionally, it will be available as a stand-alone service to non-PFPC clients since PFPC can accept data downloads from other data providers, said Jim Nolan, senior vice president, business development at PFPC.

So far, BlackRock Funds of New York, a sister PFPC company through its parent company PNC Financial Services of Pittsburgh, Eaton Vance of Boston and Strong Funds of Menomonee Falls, Wisc., have signed up for the program.

PFPC has been providing cost-basis accounting information on mutual fund accounts since 1992. However, while the more technologically advanced brokerages could store individual cost-basis data, the less savvy could not, said Mike DeNofrio, executive vice president and senior managing director for PFPC's shareholder service and transfer agency division.

For those brokerage firms that do not keep the information stored, this is just one more service we can provide to them, said Jeff Beale, vice president and chief administrative officer at Eaton Vance in Boston. "It is another value-add that enhances our relationship with the [brokerage firm's] home office people," he added.

Another real upside is that a once terribly complex calculation process is now fully automated, said Russell Curtis, vice president of mutual fund operations at Eaton Vance. That's especially important since Eaton Vance, among other mutual fund companies, has been preaching to investors the benefits of dollar-cost averaging, where incremental and consistent share purchases can become a tax calculation headache down the road, Curtis added.

Moreover, street name accounts are quite common among funds sold through intermediaries. At Eaton Vance, approximately 80% of its one million mutual fund shareholder accounts are held in street name.

This past June, Fidelity announced it would provide online details to fund investors of up to 150 different lots of fund shares they had previously purchased and at what prices [see MFMN 4/22/02]. It would then allow investors to redeem shares against a specific lot of shares, and personally choose to minimize a taxable gain or maximize a tax loss. Fidelity began offering the same service for individual securities two years earlier.

Likewise, AdvisorCentral has begun offering tax-lot accounting, which is now a staple within PFPC's cost-basis accounting system.

So have investors been clamoring for the new tax-enlightened program?

While not releasing specific numbers, Fidelity spokesman Jim Griffin said that the jury is still out until later this year, when tax-loss selling activity is expected to pick up.

Charles Schwab of San Francisco is gearing up to offer a similar capability. Clients can do fund tax-lot accounting today, but not online, said Lance Berg, a Schwab spokesman. But that will change. "We plan to offer this online sometime in 2003," he said. While Schwab has found that some of its clients want this, it isn't something that the masses use, Berg added. "We expect that as it becomes easier to do, more will want it," he said.