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Going Cross Country on Cost Basis

So you want to tap into the global markets and find new opportunities for growth.

Before you do that, you, of course, need to get re-acquainted with the new requirements of the Internal Revenue Service for reporting the basis of the cost you ascribe to a security or fund you purchase. New basis requirements went into force for mutual fund transactions at the beginning of this year.

Now just imagine the headaches of going abroad. Every country has its own approach to cost-basis reporting. And you, fund manager, have to decide whether you're going to deposit the proceeds of a transaction into the local currency, under those rules. Or repatriate the proceeds and report in both the foreign currency and your own.

Oh, and never mind (actually, you must mind) the fact that the value of each currency fluctuates.

"This creates a whole other level of recording keeping for brokers and transfer agents," says Jim Kaiser, a partner at the Philadelphia accounting firm BBD LLP.

That does not mean giving up on investing internationally. After all, the biggest gains for many funds these days are investments in emerging markets, such as India, China or Brazil.

And technology is arriving that can automate much of the book-keeping involved, letting funds pick where to book a transaction, do so properly under local cost-basis rules and then roll up results, in the currencies needed for banking or tax records.

Use of such technology can actually open up foreign markets, according to Broadridge Financial Solutions, which provides both the software and online services that will handle the cost-basis calculations as well as connections to venues around the world where trades can be made.

First, Broadridge argues that out of the approximately 50,000 stocks available for purchase in world markets, fewer than one in 10 can be found on U.S. exchanges. They also cite forecast figures by the International Monetary Fund that predict the output of emerging markets will outpace the growth in the domestic product of developed countries by 4% a year over the next five years.

"We are seeing a significant interest in global markets, primarily driven by those seeking better returns than those offered here," says Michael Alexander, executive vice president and chief operating officer of Ridge Clearing and Outsourcing Solutions, a Broadridge arm that provides correspondent clearing services and outsources systems for broker-dealers.

Some funds may decide to develop their own systems for capturing and calculating cost-basis and related information from overseas trading. However, for those that lack the expertise and resources, a number of vendors are offering packages targeting the issue, including Scivantage, Mastertrader and even the Depository Trust & Clearing Corporation.

Meanwhile, Broadridge markets cross-country cost-basis calculations and reporting in its Business Process Outsourcing service. This service is available in more than 50 countries on six continents and Australia. It relies on a suite of software systems, such as proprietary brokerage, order management, and account management programs. It also draws on the expertise of local staff with experience in these countries.

With the BPO system, a trade would work like this:

A fund manager, for instance, wants to buy a Hong Kong stock. The manager, or the broker servicing the manager, enters an order in the BPO service's order capture system. The system is usually accessed via a website, provided by Ridge, but branded under the label of the client or broker dealer. The order is then routed to the appropriate market venue, an exchange or an electronic trading network, that the broker selects.

Local currency is deposited to pay for the trade. The system reports the trade in the account in real time, in Hong Kong dollars. After the order is made, it goes into Ridge's international clearance system, where that trade is settled by Alexander's team. Once the trade is placed, it also hits the back office accounting system. In that system, everything is recorded for the customer.

The managers get monthly statements which record daily price movement in either Hong Kong currency or U.S. currency, or both-depending on what they want- to see how the stock is doing. When the stock is sold, the gain or loss is captured and reported to the IRS, as required, every six months.

The BPO service reports for U.S. customers trading foreign securities on foreign exchanges in multiple currencies goes to only one taxing authority, the Internal Revenue Service. It does not do customer reporting for foreign resident customers trading foreign securities.

It's important to note that all of these systems are, at least for now, primarily geared for IRS-reporting. Functionality for tax reporting to authorities in other countries is still a work in progress.

Still, just reporting for U.S. taxes is no easy task.