Real-Time Tax Accounting in Portfolio Management

Steve O’Loughlin, Product Manager, Investment Accounting


In an ideal world having up-to-date tax information for a portfolio, whether it a mutual fund or a taxable retail brokerage account, is desirable for tax planning decision making and planning purposes. However, embedding tax accounting in high volume real-time processing is a daunting challenge. Adding to the challenge, aggregating and storing all tax data in a real-time environment is simply not viable or practical. Therefore, making intelligent decisions about which types of tax data are available for real-time processing is critical and should be evaluated based upon the needs of individual clients.

When managing a portfolio from a tax advantaged or tax aware perspective, understanding the implications of potential sales or other voluntary taxable dispositions is perhaps the most important information needed. To evaluate the tax effects of potential transactions or make the most efficient lot selection for executed trades, the following information at a minimum is needed:

  • • The current cost of positions at the tax lot level
  • • The adjusted holding period date of each lot from a tax perspective
  • • The current realized long term and short term gains and losses for the current tax period

The first two components, current tax cost and adjusted holding period date are needed to accurately calculate the correct taxable gain/loss and holding term at the time of a sale or when evaluating a potential sale. Without this information, tax efficient lot selection methods cannot perform with a high degree of certainty.

Maintaining this cost information in a real-time environment is not trivial. It requires accurate calculations for all events at the time they are processed and this includes taxable and non-taxable corporate actions as well as wash sales processing. If the correct cost is not calculated at the time of processing, subsequent events will rely on stale data when performing tax efficient lot selection. For example, if the wash sale adjustments are not processed and do not update the cost and holding period of replacement share lots, additional dispositions or potential “what if” sale analysis will not process based upon the correct tax information and will produce inoculate results.

Finally, if the correct taxable gains and losses are not accurately maintained then the overall tax status of a fund or investor portfolio is not properly evaluated for potential changes in tax strategy. For example, if an investor is unaware that wash sale disallowances have wiped out current period losses the investor may incorrectly switch strategies and attempt to maximize gains to avoid large tax loss carry forwards.

While maintaining up-to-date tax information is a difficult task to automate, the impact on proper tax decision making to minimize the impact of taxes on a portfolio can be worth the efforts.

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