Confused how to calulate cost basis of mutual fund shares

[ttbtaxes]

I thought I knew how to calculate the cost basis of a mutual fund but once I put pencil to paper...now I'm not so sure. Let's say for illustration purposes mutual fund shares were acquired as follows:

2012 110 shs purchased $1100
2012 10 shs dividend reinvest $120
2013 130 shs purchased $1500
2013 20 shs div reinv $130
2014 200 shs purchased $4000
2014 30 shs reinv $410

Total 500 shs $7,260 average cost $14.52/sh

In 2015, 250 shs are sold. Is the cost basis of those mutual fund shares:

A) $14.52 per share for a total cost basis of $3,630

B) The average cost for the first 250 in 2012 and 2013 = $2,720 ($1,100+$120+$$1,500) divided by 250shs = $10.88

I would guess it is answer B because the mutual fund shares would be sold on a FIFO basis. If the answer is A, then FIFO or LIFO is meaningless as it will result in the same average cost basis no matter what shares are sold.

[FEDUKE404]

Possible answer

Going by the purchase/reinvestment dates shown, would not all of these shares be "covered" therefore your question is somewhat moot?

(This assumes default is FIFO for the fund.)

FE

[Roland Slugg]

The sale of any stock, including mutual fund shares, can be reported either: (A) using specific share identification, or (B) using the FIFO method. For sales of mutual funds, however, a taxpayer can elect to use the average cost method. This method uses a perpetually running average cost for all shares of that mutual fund owned by the taxpayer. A different method may be used for each different mutual fund holding, and even for the same mutual fund if shares are held in two or more different accounts with one broker or agent or with different brokers/agents, such as Merrill Lynch (a broker) and Vanguard (an agent). The taxpayer makes the election by advising the broker/agent (in any acceptable manner, including electronically), or if the shares are not held by a broker or agent, by attaching a statement to his tax return. (See Regs §1.1012-1(e) various parts.)

The average cost method must be elected, and once it is, that method must be used for all sales of that same mutual fund thereafter that are held in that account and by that broker or agent.

In the vast majority of cases, brokerage firms and agents track the basis of each customer's holdings and report the basis for all sales on their annual 1099-B forms. If the customer advises the broker to use the average cost method, the broker will do so. Otherwise, the default cost method used is usually FIFO. If a broker's default method is "average cost," that method will be deemed elected unless the taxpayer notifies the broker to use FIFO.

Even when using the average cost method, the shares still retain their ST/LT holding periods, and sold shares are automatically deemed to be sold oldest to newest. Think of it as "date FIFO." Sold shares are always considered to be LT if there are enough shares that were owned more than one year when sold. If a taxpayer runs out of "over 1-year" shares," the rest are considered to be ST. This is covered in the Regs at §1.1012-1(e)(7)(ii).

[FEDUKE404]

Clarification, please

So you are saying that, for "covered shares" (each individual purchase, including reinvested shares, carries an exact cost that is tracked) said cost basis is **NOT** used for reporting the sale of those covered shares?

Stated differently: The mutual fund, when reporting the cost basis to the IRS for each "piece" sold, reports a calculated price instead of the original "covered" price?

The only thing I have to go by is my brokerage account (no mutual funds present) that also lists the cost basis for all of my holdings in a gain/loss calculator. For the "old" (uncovered) shares I can enter the cost basis directly from my records. For the "new" (covered) shares, the cost basis area is blocked and cannot be changed by me. Along a similar line, I recently transferred some DRIP shares (paid quarterly) and a bond fund (paid monthly) into my account. For the DRIPs there were four annual "purchases" and costs, and for the bond fund there were twelve annual "purchases" and costs. Each individual purchase event was transferred into my new account. . .with a corresponding cost basis shown as "covered" and unalterable by me.

FE

[ttbtaxes]

My intent was not to even deal with covered vs noncovered so let's roll the dates back a decade.

[Snaggletooth]

Rolling Average

I would use the "rolling average" where the average is recalculated after every transaction. Sounds complicated but is not really - can be done on a simple Excel spreadsheet.

This is much easier and gives you tax savings if the value is rising. If you don't use the "rolling average" consider what the alternative is:

1) You have at least SIX "layers" of distinct cost, and if dividends are reinvested twice annually, you will have NINE.
2) Your sale eliminates the earlier "layers" under FIFO until the earlier layers are exhausted.
3) You are then left with ever how many "layers" are left and more layers are added for every purchase and dividend.

You want to avoid discussion about 8949 reporting, but if whatever method you use is different than what the broker calculates on 1099-B, there is a code "B" to level out the difference on form 8949.

[Kram BergGold]

Two Options

Either use ACB as you described in example A, or
FIFO.
Whichever you choose it has to be used for that fund forever.
Regardless of the method you choose, if there is a discrepancy with the 1099-B you explain this on Form 8949.