Settlement from brokerage for stock not sold as instructed and loss incurred. Reported on 1099 box 3.

[saerse]

We received a settlement from a brokerage firm to compensate us for losses incurred when inherited stock was not sold as instructed. We received a consolidated tax statement summary saying the amount was being reported on 1099 box 3 but did not actually receive a 1099. We should not have to pay taxes on a settlement for inherited stock that lost it's value due to a mistake by the broker. How do we report this on Turbo Tax

[DaveF1006]

It depends.  At this juncture and still time, I would wait until the 1099 is received. More than likely, it's a 1099-MISC.  Check your consolidated statements to see if the 1099-MISC is included in the consolidated statements. I have seen these included in statements but didn't know it was there because it was buried in the statement. 

One key point here is that if you have taken the loss as a capital loss on your return, then you would need to report this as income to offset the loss that you previously claimed. Check your transaction on your 1099B to see if you claimed a capital loss on this particular stock.

[saerse]

We did receive a 1099MISC and in Box B the settlement amount is entered and it shows as taxable income when it is entered into Turbotax. The settlement was for the loss of value of the stock that was incurred due to the subsequent market downturn when it was not sold by the Edward Jones broker at the date instructed. The shares were then transferred into Fidelity account and their cost value became their value at time of transfer. They were subsequently liquidated later in the year at a loss again using the transfer cost as the value. The point is that settlement was for what we would have received tax free as inherited stock liquidation if they had been sold as we directed. We have contacted Edward Jones for a revised 1099 or something and they say that is the only way to report it.

[Cynthiad66 · Accepted solution]

And they are correct.  If you reported the loss on your otherwise taxable inherited stock, then you have to report the income.  The general rule of taxability for amounts received from settlement of lawsuits and other legal remedies is Internal Revenue Code (IRC) Section 61 that states all income is taxable from whatever source derived, unless exempted by another section of the code.

The basis of the stock is not the value of the stock when transferred to Fidelity.  I don't know what the broker used but your basis for the inherited stocks is the value of the stock on the date of death. 

The settlement should be shown as  on the Form 1099MISC you received.  Settlement money and damages collected from a lawsuit are considered income, which means the IRS will generally tax that money, although personal injury settlements are an exception (most notably: car accident lawsuits and slip and fall claims are nontaxable).

Please see the link below for additional Information from IRS>

Tax Implications of Settlements and Judgements etc.

[saerse]

Thank you but this was not a legal lawsuit settlement. This was a voluntary settlement to compensate us for losses incurred due to non performance of our instructions to sell the inherited stock on the date of transfer into our accounts from the decedent’s account. If the stock had been sold as requested on the date of transfer then there would have been negligible capital gain or loss to report. You are correct they designated the cost basis as the value on date of death. We have not claimed the capital loss but shouldn’t  the true cost basis be that value minus the settlement though? I know I can adjust the cost basis but the settlement amount increases our tax liability much more than any capital gain we would owe if we did that and we still don’t know how to handle the issued 1099-MISC which we don’t think was the proper way to report it.

[DavidD66]

It may not have been settlement from a law suit, but the amount you received from the broker is ordinary income.  It does not change the cost basis of the inherited stock, which is/was the value on the date of death of whomever you inherited the stock from.  The tax rules may not be conforming to the way you think they should work, but that is common with the tax code.  

[russoule]

my question is NOT is it taxable, but is it a part of the Capital Gain?  that is, if the broker had sold WITHOUT permission and settled the tax cost by issuing a check, is the amount part of the "original" transaction or does it become a NEW "transaction"?  is the taxpayer entitled to the special tax rates on Long-Term Gains on this type of settlement?

[DaveF1006]

it depends on the 1099 that it is reported on. Check the consolidated statements carefully to see if there are 1099 forms embedded in them. It could be a 1099-INT, 1099-DIV, 1099-MISC, or 1099-B. If possible, call your broker to see if they can send over a correct reporting 1099-B tax form and if it is included in the statements, where should you  look for it. We will be able to best advise you if you have your 1099.

[russoule]

oh, they sent it on a 1099MISC, of course.  my question really revolves around the status of the "original" transaction, which was an unauthorized sale.  the sale generated a profit, as opposed to the earlier NO SALE and subsequent loss of market value.

the settlement was actually for the additional taxes that were paid as a result of the sale that we did not want to be made.  could this amount be considered as part of the 'selling price" and therefore subject to the Capital Gain Tax Rates?  a 20% tax rate is much preferable to a 32% tax rate.  lol.

[DaveF1006]

It depends.  This is reported on a 1099-MISC and the income will be treated as ordinary income, not capital gains. If you feel that this is reported incorrectly, you will need to contact the broker to correct. In the meantime, to report.

1. Log in to Turbo Tax
2. Go to federal>income and expenses>other common income>Form 1099-MISC>start or revisit
3. Now you can record the 1099-MISC in your return.