Source: Flickr user Frankleleon.
Those who are fortunate enough to be successful investors generally know that when it comes time to cash in on their profits, the IRS is ready and waiting for its share. Capital gains taxes are nothing new, but after decades of relying almost entirely on taxpayers to do the right thing with their tax returns, the federal government finally required brokers to start providing cost-basis information on sold securities both to accountholders and to the IRS. Still, even after having taken effect in previous years, the system is far from perfect, and IRS Form 8949 is often necessary to get your tax return in the shape the IRS wants to see. Let's take a closer look at this form and why you need to understand its role in your overall return.
What Form 8949 does
When it was first introduced, Form 8949 dramatically changed the way people reported gains and losses on sales of stocks and other investments. Before Form 8949 came into existence, brokers reported sales information on Form 1099-B, which included only a total amount of sales proceeds. Now, though, brokers are required to give details on each individual sale in your account, with the intent that you'll then put it line by line on Form 8949. Included in that information is not only how much money you received when you sold the security but also what the broker believes is your cost basis on the position.
The biggest confusion with Form 8949 stems from the fact that during this transition period, brokers don't necessary have all the information they need to give you your cost basis. As a result, taxpayers have to file multiple 8949 forms, with a separate form needed for those positions for which your broker didn't know the cost basis. The reason for the separation is likely to highlight the need for scrutiny from the IRS for numbers that aren't independently verified by a financial institution.
In addition, Form 8949 calls for taxpayers to make their own adjustments to the reported cost basis under certain circumstances. For instance, the wash sale rules sometimes disallow taxpayers from taking capital losses, but an individual brokerage company might not know that you've violated the wash sale rules if a transaction took place at another institution. Similarly, errors your financial institution made, situations in which you're the nominee for another taxpayer who's actually liable for the tax, or certain other special circumstances can warrant the need to make changes to tax basis. The appropriate code for the type of issue involved goes on Form 8949 along with any required basis adjustment.
Do you need to file Form 8949 anymore?
The IRS responded to all the confusion surrounding Form 8949 by making changes to the filing requirements. For this year, the current rules make it much easier to comply with IRS requirements in reporting capital gains and losses.
Specifically, if your broker provided correct basis information on all of your sales, and no adjustments are necessary, then you no longer need to provide line-by-line detail on Form 8949. Instead, you can put a summary of that information in the appropriate lines of your 1040 Schedule D.
However, if both of those conditions aren't met, then you'll still need to file the form with the IRS. That covers situations in which your broker doesn't know what your cost basis is -- usually because you've owned the assets further than its recordkeeping goes back -- as well as reported transactions for which an additional adjustment is necessary. If you don't use Form 8949 in these situations, then you run the risk of having the IRS come back to you for more information to justify your treatment of the transactions that created the gains or losses.
It's always unpleasant to lose some of your hard-earned investment gains to the IRS, and having to navigate the complicated Form 8949 can make that task even less enjoyable. Still, with recent changes to the reporting requirements, you won't find Form 8949 as hard to deal with as taxpayers have in the past.
