Getting a Tax Handle on HOLDRs

Merrill Lynch Internet HOLDRs are securities that offer ownership in 20 stocks with a single investment. They were launched last September in two flavors, Internet (HHH) and Biotech (BBH), and Merrill Lynch plans to add telecom and pharmaceutical versions to its lineup. (See Tuesday's Dear Dagen for more details.)

One interesting feature of these securities is the option to redeem them (in 100-share lots) and get shares of the underlying stocks in return. That brings up an interesting question about the cost basis of these shares, and that's where the Tax Forum comes in. We'll look at that issue today.

Also on tap: How to consolidate your IRA accounts, when to deduct margin interest and an update from the electronic tax-filing world.

Ask your tax questions on the TSC Tax Forum board

But first: In last week's Tax Forum , I included a reminder noting that fourth-quarter 1999 estimated tax payments were due by Monday, Jan. 17. Many of you pointed out that because Monday was Martin Luther King Jr.'s birthday, a federal holiday, payments were actually due Tuesday.

You're right. I guess since I had to work that day I forgot it was a holiday. So perhaps you got your payment in a day earlier. Is that so bad?

Have any other tax questions? Send them to [e-mail], and please include your full name.

HOLDRs Help

If I choose to redeem HOLDRs for the underlying shares, how do I determine my basis in each stock for tax purposes?

-- Howard G. Clark

Howard,

As I mentioned, when you redeem HOLDRs, you get a proportional amount of the underlying shares. To determine your cost basis, you need to calculate the dollar value of your shares in each of the 20 stocks as of the day you made the redemption, says Diane Garnick, equity derivatives strategist at Merrill Lynch.

Let's assume you redeem $20,000 worth of Internet HOLDRs. As of early this week, Yahoo! (YHOO) made up 31.7% of the value of these HOLDRs. So 31.7% of your $20,000 investment is $6,340. That's your cost basis. Yahoo! closed at 364 on Wednesday, so if you redeemed your HOLDRs that day, you'd have walked away with 17.4 shares of Yahoo! You'll need to do this same calculation for the other 19 stocks. (For weightings of the stocks in the Internet HOLDRs as of last week, see a recent Dear Dagen.)

I Need To Consolidate My IRAs

My wife has two IRA accounts that were opened about 12 years ago. We both have 401(k) accounts and we do not contribute to the IRAs any more. We would like to consolidate these and other miscellaneous accounts so we can better manage them. What are our options for converting these IRAs to different accounts?

-- Mike Stewart

Mike,

You should transfer all your IRAs to one trustee. "Pick a mutual fund house or broker and do a trustee-to-trustee transfer," suggests Bill Fleming, director of personal financial services for PricewaterhouseCoopers in Hartford, Conn. That just means one trustee will wire the money to another so that you won't have to touch it.

With all your IRA money in one account, you'll get one statement and have one overall balance. That'll definitely simplify things. Beware, though, some trustees might charge a fee for transferring the balance of your IRA.

You cannot consolidate your 401(k)s if you still work for the companies that provided them. But if you have left or retired, you can transfer that balance to the same new IRA account, notes Fleming.

You also can transfer taxable, nonretirement accounts to the same broker. Having everything in one place will help you better monitor your investments.

Interest on Margin Account

I own some securities I purchased on margin, and throughout the year accrued interest has been billed to my account. For which tax year can I deduct the interest? Is it the year that the interest was charged to my account, or is it when I actually pay the interest?

-- David Levine

David,

Generally, you must deduct the interest in the year you pay it, says Fleming. You can take it as an investment interest deduction on Schedule A - Itemized Deductions.

Remember, your interest deduction is limited to the amount of investment income for the year. Check out this previous Tax Forum for more margin interest details.

E-File Update

As reported last week, H.D. Vest Financial Services(HDVS) of Irving, Texas, is launching a tax preparation and electronic tax filing Web site that will be free to everyone, regardless of income level or tax return difficulty.

As of Jan. 20, the site is up and running. So if you're itching to prepare and e-file your tax return, go ahead. The Internal Revenue Service began accepting electronically filed tax returns Jan. 14.

H.D. Vest also got its CPA WebTrust seal of assurance on Jan 20. The seal was created by the American Institute of Certified Public Accountants' electronic commerce taskforce to assure a site's privacy, transaction integrity and security practices.

If you do decide to use the H.D. Vest site, please let us know how it goes.

Also: The Internal Revenue Service's list of approved online tax-filing sites is up, but it's not conclusive. For example, Quicken's TurboTax for the Web will allow you to e-file in 38 states plus the District of Columbia, but only 10 states are listed on the IRS' site. That's because the Service has not finished testing all TurboTax's state products for transmittal accuracy. It doesn't mean anything bad. Just means the IRS is slow, so stay tuned.

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