Waddell & Reed

Understanding Changes to Cost Basis Reporting

The Emergency Economic Stabilization Act of 2008 enacted legislation requiring financial services companies to maintain and report cost basis information for mutual fund purchases and subsequent redemptions to the Internal Revenue Service (IRS) and investors effective January 1, 2012.

How does this affect me?

This regulation offers you the opportunity to choose from any of the IRS-approved methods to calculate the cost basis of shares for each of your Form 1099-B reportable accounts. Once you provide a cost basis election, we will begin tracking cost basis for your account(s) using the elected method and will also provide you with the information needed to complete your tax return when you sell your investments. The IRS regulations also require that we report the cost basis information to the IRS on Form 1099-B for tax purposes. The method you select will be used to record and report the cost basis of redeemed shares from a non-retirement account acquired on or after January 1, 2012.

Cost Basis Calculation Methods and our Fund Default Method

The Waddell & Reed Advisor Funds and Ivy Funds have selected Average Cost as their default method for tracking and reporting cost basis. Therefore, if you do not choose a method, Average Cost will be applied as the cost basis method for your account(s).

Historically, our Funds have reported the cost basis of redeemed shares to you when available, and have done so using the Average Cost method. For shares acquired prior to January 1, 2012, we will continue to report this information to you, when available. However, we will not report this information to the IRS.

Please note cost basis reporting does not apply to annuities, life insurance, tax exempt entities, corporations (other than Subchapter S), money market fund accounts with a stable net asset value (NAV), retirement accounts such as IRAs and Roth IRAs or tax deferred education savings accounts.

Your Funds’ Default Cost Basis Method

  • Average Cost - Uses the average cost of the shares as the basis for calculating your cost when the shares are sold. The Average Cost method redeems the oldest shares first, and the holding period will be based on the acquisition date of the shares sold.

Other Cost Basis Calculation Methods:

  • Specific Lot Identification (SLID) - Specific shares to be sold in an account will be selected by the shareholder at the time shares are sold to determine cost basis. This method will not be available for MAP Program Accounts (MAPPlus, MAPIA, MAP or SPA).

Standing order accounting methods:

  • First-In, First-Out (FIFO) - Assumes shares acquired first in the account are the first shares to be redeemed.
  • Last-In, First-Out (LIFO) - Assumes shares acquired last in the account are the first shares to be redeemed.
  • High Cost (HIFO) - Assumes shares acquired with the highest cost per share in the account are the first shares to be redeemed.
  • Low Cost (LOFO) - Assumes shares acquired with the lowest cost per share in the account are the first shares to be redeemed.
  • Loss/Gain Utilization (LGUT) - Depletes lots with losses before lots with gains, consistent with the objective of minimizing taxes. For lots with a loss, short-term loss lots will be redeemed ahead of long-term loss lots. For gains, long-term gain lots will be redeemed before lots with short-term gains since long-term capital gain rates are lower than short-term.

Consult with your tax advisor

Depending on your financial situation, the cost basis method you select may help you take advantage of the gains or losses of your investments. We recommend you consult with your tax advisor to determine which cost basis method is best for you.

For additional information, you may wish to contact the Internal Revenue Service at 1-800-TAX-1040 (829-1040) or visit IRS.gov.

Online Access for Cost Basis Elections

You may make your cost basis elections online by logging onto your account via the “Access Your Account” option. If you have not set up online access for your account, you may do so by selecting the “Create User ID” option on the “Access Your Account” page. Once logged onto your account, go to the “Maintenance Tab” and then select “Cost Basis Elections”. If you need assistance, please contact Client Services at 1-888-WADDELL (923-3355).

Frequently Asked Questions

Q. What is cost basis?

A. Cost basis refers to the portion of an account that represents your investment, or cost of shares, including adjustments. Investments include purchases, reinvested dividends and capital gains. This portion is not subject to tax upon sale. The shares may, at times, be subject to fees and other adjustments that could affect their cost basis, such as wash sales or a return of capital distribution by the fund.

Q. Why is cost basis reporting required?

A. The requirement is part of the Emergency Economic Stabilization Act of 2008. The Act was intended to improve compliance with tax laws. This legislation requires an expansion of the current reporting on IRS Form 1099-B.

Q. What types of investments are affected by the new cost basis reporting requirement?

A. The new regulations impact equity securities, mutual funds and debt securities. Mutual funds are subject to the new reporting rules for shares purchased on or after January 1, 2012. The regulations do not apply to annuities, life insurance, money market fund accounts with a stable NAV, retirement accounts or tax deferred education savings accounts.

Q. Can a client service representative help me determine the best cost basis method?

A. No. Our representatives can explain the requirements and the various election methods, but they cannot offer tax advice. We recommend you consult with your tax advisor for help with selecting your election method.

Q. Are there any limitations on what cost basis method I can use?

A. Most shareholders will be able to choose any of the IRS-approved cost basis methods. The following exceptions will apply to MAP Program Accounts (which are MAPPlus, MAPIA, MAP and SPA accounts):
  • The Specific Lot Identification method will not be available because it is incompatible with the automatic rebalancing feature of these accounts.
  • Cost basis elections must be applied at the account level. You will not have the ability to elect a cost basis method by fund within an account.

Q. Haven't The Waddell & Reed Advisor Funds and Ivy Funds been providing cost basis information?

A. Yes. We have provided Average Cost information as a service to shareholders for many years. However, this information was not provided to the IRS, nor were you as shareholders required to use the information to determine their gains or losses on the sale of shares.

Q. What is the definition of covered and non-covered shares?

A. For cost basis purposes, shares will be classified as “covered” and “non-covered.”
  • “Covered shares” are shares acquired on or after January 1, 2012.
  • “Non-covered shares” include shares acquired prior to January 1, 2012, or shares purchased on or after the effective date when cost basis information is unavailable.

Q. My account was established prior to the effective date of these cost basis regulations. Will I receive cost basis
information on all the shares in my account?

A. Yes. If you have received Average Cost information for sales of your mutual fund shares in the past; we will continue to report Average Cost information for non-covered shares to you. In addition, due to the IRS regulations, the cost basis information for covered shares will be provided to both you and the IRS. We will report non-covered shares and covered shares separately on the same Form 1099-B.

Q. I have both non-covered and covered shares. Which shares will be redeemed first?

A. The non-covered shares will be redeemed first, except when you provide instructions to redeem a specific share lot. Once all the non-covered shares are depleted, covered shares will be depleted using the elected cost basis method.

Q. What cost basis information can be provided by the Funds for non-covered shares?

A. Average Cost Basis is the only information available for non-covered shares.

Q. If the Average Cost method has been applied to my covered shares, and I decide another accounting method
will be more beneficial for me, am I locked in to that method?

A. It will depend on the activity within your account.
  • If you change from Average Cost and have not yet redeemed or sold shares from your account, all covered shares will retain their original purchase price for cost basis purposes.
  • If you are changing from the Average Cost method and a redemption or sale of covered shares has already been processed on the account, the remaining covered shares in your account were assigned the average cost basis at the point that sale occurred. Any shares purchased after a change to your cost basis method will be tracked and reported using the new method.

Q. How do I change my cost basis method from Average Cost in the future?

A. The final regulations specify a change from Average Cost must be provided in writing. You may contact one of our client services representatives for instructions on how to fulfill this requirement at 1-888-WADDELL (923-3355).

Q. Why is a secondary method required if I elect the Specific Share Identification method?

A. The secondary method will be used for systematic withdrawals (FWS) and check writing as an alternate to providing specific lot depletion instructions. If you do not elect a secondary method, the Loss Gain Utilization method will be assigned as the secondary method for your account.

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