G2 FinTech’s George Michaels helps clarify yet another conundrum in the US tax code.
(Editor’s Note: We are knee deep in the stressful tax season. This year will be particularly challenging as broker/dealers for the first time have to report to the Internal Revenue Service (IRS) the adjusted cost basis—the actual, realized gains and losses—for securities transacted in 2011. The changes are a result of the Emergency Economic Stabilization Act of 2008—the TARP law—and subsequent IRS regulations that will require firms to fill out the new Form 1099-B. As luck would have it, there is a twist.
Firms cannot simply comply with the basic principles of the TARP law—they have to meet the IRS rules. The increasingly arcane situation creates opportunities for George Michaels, CEO and founder of tax software provider G2 FinTech. Michaels readily acknowledges that the greater the number of pages of tax code, the more securities firms will need software to interpret them. In this case, the company offers its TaxGopher application, which Michaels says is “a tax lawyer in a box.” The software was originally available from G2 Systems, a company that used to provide software and consulting. This past October, G2 Fintech was spun off from G2 Systems, and the consultancy side of G2 Systems was sold to GFT Technologies.
Before founding G2 Systems, Michaels had management positions at major hedge funds and investment banks, including serving as chief technology officer (CTO) for the hedge fund, Carlson Capital.)
How seriously should firms be taking the start of the new cost basis reporting rules?
The IRS dumped the problem onto the broker/dealers and said ‘You guys have to produce this information. You’re the only ones with enough data to figure out what the cost-basis is, so that we can get all those taxpayers out there to pay capital gains taxes correctly. And we can realize another $11 billion in revenue each year.’
The IRS has approximately 16,000 pages of tax code and even more with the revenue rulings. … The TARP law is 169 pages—but it is not sufficient to pay your taxes just to be compliant with TARP. …The IRS says that if you can do the easy [TARP] version, it’s not sufficient.
Let’s imagine that you own some shares of IBM and you want to take some losses. Maybe you sold shares of Apple Computer earlier in the year and you made a short-term gain … You don’t want to pay short-term capital gains taxes for some extraordinary income tax rate. Depending on what state you live in that might be 40 percent of your gains whacked out. Your IBM shares had an unrealized loss. If you could sell off the IBM shares, you could offset all those gains you made in Apple. But the problem is that you want to hold your IBM shares—you love IBM, you’re Big Blue for Life. If you sell your shares and quickly buy them back, you’ve got a wash sale.
Some people have asked, ‘Why don’t you just buy JDRs (Japanese Depositary Receipts) on the Tokyo Stock Exchange?’ The thinking is that the TARP law doesn’t apply to you there; you had a wash sale as far as TARP is concerned. That means your broker will tell you that you sold off your IBM shares on the New York Stock Exchange (NYSE) and bought them on the Tokyo Stock Exchange. You have a huge loss for the shares you took on the NYSE and you can offset those shares against the gains you got on Apple, so you have no tax bill and you still have your IBM shares.
“The IRS says even if you turn in those 1099-B forms that are solely TARP compliant that does not let you off the hook for tax evasion. Just like Al Capone you could find yourself in federal prison.”
—George Michaels, CEO of G2 FinTech
The TARP rules of 2008 say that’s fine. But guess what the IRS is going to do? They’re going to throw your butt in jail. The IRS says even if you turn in those 1099-B forms that are solely TARP compliant that does not let you off the hook for tax evasion. Just like Al Capone you could find yourself in federal prison.
The point I’m trying to make is that being compliant with the 2008 regulations does not make you compliant with the IRS.
It’s complicated but I guess the answer is that honesty is the best policy.
Oh, yes, when it comes to the IRS. At least make a good effort. When you’re dealing with the IRS, you can’t say it was too complicated, so I blew it off. They don’t accept that as an answer.
How does TaxGopher work?
We sit downstream from a portfolio accounting system that has already figured out the GAAP [Generally Accepted Accounting Principles] gains and losses … prior to any tax adjustments. Say your GAAP Gains are $100 … we are going to disallow $25 of that gain. Your taxable gains amount to $75 and not $100. Or we’ll disallow losses. We will modify the numbers that come out of the portfolio accounting system to make them compliant with the tax code so that you pay the proper amount of taxes.
It can be used by whoever is running the portfolio accounting system, which could be hedge fund, a broker/dealer, a mutual fund or an audit shop. … The auditor then runs the software on the data from your portfolio accounting system and then they can give you the information you need to pay your taxes.
Does TaxGopher need a data warehouse?
The data warehouse is a convenience function. TaxGopher can work off raw data files, Excel spreadsheets or Microsoft Word documents. Any way you can get at the data is fine. It has no requirements other than you have to have someone else’s portfolio accounting system. We’re not in the portfolio accounting system business.
What other systems does TaxGopher work with?
We can work with an order management system (OMS). Typically, we don’t. The OMS feeds its data to the portfolio accounting system, which sends the data to us. We’re step three in the process. We can work with some OMSes provided that they have at least a lightweight portfolio accounting engine built in.
We are in the exciting tax season.
Tax season, in earnest, starts on Feb. 1. This is why it’s pretty busy for us these days because everyone is revving up the engines and making sure their data processing is correct.
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