Procedure & Administration
The Energy Improvement and Extension Act of 2008, P.L. 110-343, ushered in a host of new information reporting requirements that affect not only brokers, mutual funds, professional transfer agents, custodians, and trustees but also corporations undertaking actions in their own stock and acting as transfer agents for their own securities. Unlike most information reporting, which occurs after year end, certain new reporting is required in as little as 15–45 days after an affected event occurs. The new requirements take effect in 2011, making immediate knowledge of the new rules imperative.
Secs. 6045A and 6045B were added to facilitate the new broker stock basis reporting regime, effective January 1, 2011, which mandates that brokers who are required to file gross proceeds information returns (Form 1099-B, Proceeds from Broker and Barter Exchange Transactions) for the sale of securities must now include, among other information, the customer’s adjusted cost basis in the security. Sec. 6045A requires that every applicable person transferring a covered security to a broker must provide an information transfer statement within 15 days after settlement of the transfer. Sec. 6045B affects both public and private corporations, whether foreign or domestic, that undertake corporate actions that would affect a U.S. taxpayer’s per-share cost basis in its share holdings. Reporting to the IRS is required within 45 days of the corporate action (January 15 of the following year, if sooner) and to shareholders by January 15 of the year following the action. Failure to comply could expose a company to sizable penalties (discussed below).
Sec. 6045A: Transfers of Securities
Sec. 6045A requires that every applicable person transferring a covered security to a broker must provide an informational transfer statement to the broker within 15 days after the date of settlement for the transfer. To understand to whom and when this requirement applies, one must understand who is considered an applicable person, who is a broker receiving custody, and what constitutes a covered security.
An applicable person transferring custody of securities is defined in Regs. Sec. 1.6045A-1(a)(4) to be any transferor who is a broker (a person who, in the ordinary course of a trade or business, stands ready to effect sales to be made by others), a person who acts as a custodian of securities, an issuer of securities, a trustee or custodian of an individual retirement plan, or any agent of these persons. The beneficial owner (the seller) of the security is not an applicable person. The applicable person is the party that has the responsibility to provide a transfer statement to a broker receiving custody of transferred shares.
Similarly, Regs. Sec. 1.6045A-1(a)(5) defines a broker receiving custody to be any broker, any person that acts as a custodian of securities in the ordinary course of a trade or business, any issuer of securities, and any agent of these persons. The beneficial owner (the buyer) of the security is not a broker receiving custody.
Example: K sells shares of Company Q stock to S, an individual. If K directs Q’s transfer agent to issue a shares certificate directly to S, no transfer statement would be required because S is not a broker receiving custody. However, if S directs that the shares be delivered to S’s account with broker B, Q (the transfer agent) must provide a transfer statement to B.
A covered security is defined in the regulations to be any share of stock in a corporation acquired for cash and held in an account (a brokerage account, for example) on or after January 1, 2011. For transfer statement purposes, shares of a mutual fund (a regulated investment company (RIC)) are not considered covered securities unless acquired on or after January 1, 2012. Likewise, shares in a dividend reinvestment plan (DRP) account are not considered covered securities unless acquired within, or transferred to, the DRP account on or after January 1, 2012. Stock transferred to an account where the broker or other custodian receives a transfer statement reporting the security as a covered security is also a covered security.
For the purpose of defining a covered security, stock acquired due to a stock dividend, stock split, reorganization, redemption, stock conversion, recapitalization, corporate division, or similar action is considered to have been acquired for cash and thus a covered security. Other types of securities will be considered covered securities if transferred on or after January 1, 2013, or a later date to be determined by Treasury. Any security that is not a covered security is deemed a noncovered security.
Transferors need not report certain transfers, including those where the security, after the transfer, is held for a customer that is an exempt recipient under Regs. Sec. 1.6045-1(c)(3)(i). Exempt recipients include domestic or foreign corporations, except, after January 1, 2012, S corporations; charitable, educational, religious, and other organizations that are exempt from taxation; individual retirement plans; U.S. or foreign federal, state, or local governmental units; real estate investment trusts (REITs); certain securities dealers and financial institutions; or an exempt foreign person under Regs. Sec. 1.6045-1(g)(1)(i). Also excluded are certain transfers in connection with lending or borrowing arrangements, and transfers of stock in a RIC that is a money market fund.
Information Required on Transfer Statements
Because the transfer statement is not filed with the IRS, there is no set form that is to be used. The regulations state that the transferor must furnish the transfer statement in writing unless both the transferor and the receiving broker agree to a different format or method prior to the transfer. Under Regs. Sec. 1.6045A-1(b)(1), each transfer statement is to include the following:
The date of the statement;
The name, address, and telephone number of the applicable person furnishing the statement;
The name, address, and telephone number of the broker receiving custody of the security;
The name and account number of the customer or customers for the account from which the security is transferred and, if different, the name and account number of the customer or customers for the account to which the security is transferred;
The Committee on Uniform Securities Identification Procedures (CUSIP) number of the security transferred, number of shares or units, and classification of the security (in other words, stock);
The date the transfer was initiated and the settlement date of the transfer (if known when furnishing the statement); and
The total adjusted basis of the security, the original acquisition date of the security, and, if applicable, the holding period adjustment required by Sec. 1091. If the basis is determined using an average basis method, the transferor may report any securities acquired more than five years before the transfer on a single statement on which the original acquisition date is reported as “various” if the other information reported on the statement applies to all the securities.
The transfer statement need not include the information in the last item for transfers of noncovered assets if the transfer statement identifies the security as a noncovered security.
Estates and Gifts
A transfer statement for a transfer of a security from a decedent or decedent’s estate must indicate that the security is inherited. The transfer statement must also report the date of death as the original acquisition date and must report adjusted basis according to the instructions or valuations provided by the estate. If the transferor has not received instructions or valuations from the estate, the transferor must report basis as the fair market value on the date of death. However, if the transferor cannot determine the fair market value on the date of death, the transfer statement should indicate that the transfer consists of an inherited security but may otherwise report the security as if it were a noncovered security (the additional adjusted basis reporting on Form 1099-B would not apply to the transferred security). Additional rules apply to subsequent transfers of inherited securities.
A transfer statement for transfer of a security that has been gifted must indicate that the security is a gift and must report the date of the gift, if known. It must also report the adjusted basis and original acquisition date of the security in the hands of the donor. However, if the transfer is between persons for whom gift-related basis adjustments are inapplicable (it is not clear how the transferor will know this is the case) or between accounts that share at least one common customer, the transferor must treat the transfer as if it were not a gift. Additional reporting rules apply to subsequent transfers of gifts.
Penalties and Transitional Relief
Sec. 6722 imposes a penalty on any transferor that fails to timely furnish a correct transfer statement to the receiving broker. The penalty can be as much as $100 for each transfer statement failure, with a cap of $1.5 million for all such failures by the transferor during any calendar year. Higher penalties apply for failures due to intentional disregard, with no annual cap. On October 12, 2010, the IRS issued Notice 2010-67, indicating it will waive any Sec. 6722 penalty for failure to furnish a transfer statement under Sec. 6045A for any transfer of stock in 2011 that is not incidental to the stock’s purchase or sale as described in Regs. Sec. 1.6045A-1(a)(1)(ii). While the phrase “not incidental to the stock’s purchase or sale” is not completely clear, in an informal telephone conversation the Office of Associate Chief Counsel (Procedure and Administration) indicated that the intent of the notice was to communicate that relief was being provided to all transfers in 2011 for which a transfer statement would normally be required. The receiving broker may also treat this stock as a noncovered security, which means that the broker will not have to report the adjusted basis of the security on Form 1099-B on a future sale of the security. The IRS granted this one-year relief to allow affected transferors additional time to comply with the requirements of Regs. Sec. 1.6045A-1.
Sec. 6045B: Corporate Action Reporting
Sec. 6045B requires issuers of specified securities that undertake organizational actions affecting the basis of these securities to file an information return with the IRS. A specified security is defined in Sec. 6045(g)(3)(B) as stock in a corporation; any note, bond, debenture, or other evidence of indebtedness; any commodity, or contract or derivative with respect to such commodity (as Treasury determines appropriate); and any other financial instrument (as Treasury determines appropriate). For 2011, the required reporting applies only to corporate actions that affect the basis of stock. Such actions could include stock splits, stock dividends, recapitalizations, redemptions and distributions not taxed as dividends, or mergers and acquisitions in which stock, or a combination of stock and other consideration, is issued. RICs must begin reporting their stock actions in 2012; reporting for other specified securities may be required at a later date.
Regs. Sec. 1.6045B-1(a)(1) provides that the following information is required to be disclosed in the information return:
Name and taxpayer identification number of the reporting issuer;
Descriptions that identify the securities involved, including the CUSIP number or other identifier number; classification of the security (in other words, stock); account number, serial number, and ticker symbol; and any description of the class of security affected;
Contact name, address, e-mail address, and telephone number for the reporting issuer;
Information about the corporate action, including type or nature, and date of the action or the date against which the shareholders’ ownership is measured; and
The quantitative effect of the corporate action on the basis of the security in the hands of a U.S. taxpayer, either as an adjustment per share or as a percentage of the old basis, including:
A description of the applicable calculation;
The Code section and subsection that apply;
Any supporting data such as security market values and valuation dates;
The reportable tax year;
Whether any resulting loss may be recognized; and
Any other information necessary to implement the per-share adjustment.
Per Sec. 6045B(b), an information return must be filed with the IRS within 45 days after the corporate action or by January 15 of the following year, if sooner. For example, a corporation undertaking a 10-for-1 reverse stock split on January 1, 2012, should file a return with the IRS by February 15, 2012, while the same transaction on December 31, 2011, would be due on January 15, 2012. The IRS is expected to release the applicable information return in the fall of 2011; in the interim, limited penalty relief for late filing on 2011 transactions has been provided and is discussed below.
The issuer must also supply information statements to affected shareholders by January 15 of the year following the corporate action, per Regs. Sec. 1.6045B-1(b)(2). Generally, the issuer must furnish a written statement with the same information to each holder of record of the security or to the holder’s nominee (unless the nominee is the issuer, in which case the statement must be furnished to the holder). The statement must indicate that the issuer is furnishing the information to the IRS. The issuer may satisfy this requirement by giving the holder a copy of the information return supplied to the IRS.
Regs. Secs. 1.6045B-1(a)(3) and (b)(4) provide that the reporting obligations for the IRS return and shareholder statements can be satisfied if the issuer posts the required information in a readily accessible format in an area of its primary public website dedicated to this purpose and keeps that information accessible to the public for 10 years on its, or any successor organization’s, primary public website. A company would need to weigh the potential cost of keeping this information in the public domain for 10 years, with no ability to remove it, against the benefit of not having to file the IRS return and shareholder statements.
When a corporation makes a distribution during the year, it is not always clear at that time whether there will be adequate current-year, or accumulated, earnings and profits to support that the distribution be treated as a dividend (reportable under Sec. 6042), rather than as a return of capital (reportable under Sec. 6045B). Under Regs. Sec. 1.6045B-1(a)(2)(ii), the distribution would be treated as a dividend until it could be reasonably determined that it is not. Thus, the window of time for reporting to the IRS could not reasonably start until after year end, making the earliest due date January 15 of the year following the distribution. Reporting of the distribution should be consistent with its treatment under Sec. 6042(b)(3) and Regs. Sec. 1.6042-3(c) (see Regs. Sec. 1.6045B-1(g), Example (2)).
When reporting the quantitative effect on basis, an issuer can make reasonable assumptions about facts that cannot be determined before the due date of the return. An issuer must file a corrected return, and supply corrected information to shareholders, within 45 days of determining facts that result in a different quantitative effect on basis from what the issuer previously reported. For example, a concluded IRS audit may result in an adjustment to the reported tax treatment of a corporate action and require corrected reporting. Likewise, a tax return finalized eight months after year end could indicate that there are not sufficient earnings and profits to support dividend treatment, as had been previously thought, thus triggering a Sec. 6045B reporting requirement.
Who Must Report
With some exceptions, the reporting requirement applies to all public and private corporations, whether foreign or domestic, that undertake corporate actions that would affect a U.S. taxpayer’s per-share cost basis in its stock holdings. However, no reporting is required by a RIC that can hold itself out as a money market fund per Regs. Sec. 1.6045B-1(a)(5).
Reporting for actions in other RIC stock will not be required until 2012. In addition, Regs. Sec. 1.6045B-1(d) provides a special rule for certain regulated RICs and REITs. A RIC that reports undistributed capital gains to shareholders under Sec. 852(b)(3)(D) or a REIT that reports undistributed capital gains to shareholders under Sec. 857(b)(3)(D) is deemed to have satisfied the filing of information returns to the IRS and shareholders for undistributed capital gains affecting the basis of its stock if the RIC and REIT timely file Forms 2438, Undistributed Capital Gains Tax Return, and 2439, Notice to Shareholder of Undistributed Long-Term Capital Gains. An S corporation is deemed to meet its requirements by timely filing and providing to each shareholder a Form 1120S Schedule K-1, Shareholder’s Share of Income, Deductions, Credits, etc., that includes the effect of the corporate action according to Regs. Sec. 1.6045B-1(c). An acquiring or successor entity of an issuer that fails to satisfy the reporting requirements must itself satisfy the reporting obligations according to Regs. Sec. 1.6045B-1(e). If neither the issuer nor the acquiring or successor entity satisfies these reporting obligations, both parties are jointly and severally liable for any applicable penalties.
Regs. Sec. 1.6045B-1(a)(4) states that no reporting is required if the issuer determines that all the holders of the security are exempt recipients. Regs. Sec. 1.6045-1(c)(3)(i)(B) defines an exempt recipient as a domestic or foreign corporation (but not including an S corporation after December 31, 2011), an organization exempt from taxation under Sec. 501(a), an individual retirement plan, U.S. or foreign federal, state, or local governmental units, a foreign central bank, a dealer in securities, a futures commission merchant, a REIT, an entity registered under the Investment Company Act of 1940, a common trust fund, or a financial institution. The issuer must have actual knowledge that the holder is an exempt recipient or obtain an exemption certificate from the holder.
Secs. 6721 and 6722 impose penalties for failure to timely execute the required corporate action reporting of $100 for each IRS return and each shareholder statement, subject to separate $1.5 million per-year maximums; thus, $3 million in total penalties could be incurred. The IRS has given limited penalty relief for information returns that are filed late. On February 22, 2011, the IRS issued Notice 2011-18, which provides that for organizational actions occurring in 2011, the IRS will not impose penalties under Sec. 6721 against issuers for missing the deadline either to file a return reporting the action or to make the return publicly available, provided that the issuer files the return with the IRS or makes it publicly available by January 17, 2012. However, the relief does not apply to penalties under Sec. 6722 regarding notice to shareholders.
Secs. 6045A and 6045B add another layer of administrative burden to the information reporting duties of affected parties. Whereas brokers and other organizations in the financial services arena have likely been monitoring and planning for these effective dates for some time, other affected entities, including nonpublic corporations acting as their own transfer agent and even S corporations, might be caught off guard. These organizations must quickly create processes to comply with the new requirements. Corporate issuers of securities that act as their own transfer agents may wish to reconsider the economics of continuing to perform that function, or whether it makes more sense to outsource it, in light of these rules. Any corporate issuer that has outsourced transfer agent responsibilities to a third-party administrator should check to ensure that the outsourcing contract includes coverage of the two new reporting responsibilities.
Frank J. O’Connell Jr. is a partner in Crowe Horwath LLP in Oak Brook, IL.
For additional information about these items, contact Mr. O’Connell at (630) 574-1619 or email@example.com.
Unless otherwise noted, contributors are members of or associated with Crowe Horwath LLP.