Misc. Itemized Deductions are Mostly a Thing of the Past, But I Want to Deduct My Broker's Wrap Fee, What Can I Do?

William Delaney, EA
Westood, MA

This is tempting, and you want to be creative for your client. It’s a lot of money, after all. So, someone at a seminar told us a few years ago to add it to the cost of the mutual fund and/or securities. That way you can deduct it when the investments are sold. Sounds great, but is it too good to be true? Read on…

At that time, this pie in the sky advice really didn’t hit your radar screen. After all, those fees (subject to the 2% floor) could be deducted and the tax saved would be at your client’s highest marginal rate, as opposed to the much lower capital gain rate if capitalized.

But now, when there is no place to deduct these fees, why not capitalize. Well, it turns out that better minds than ours have already addressed this issue. See IRS Chief Counsel Memo. 200721015 (6/25/07).

Our creative petitioner inquired if these fees qualified as a “carrying charge” which would then allow the taxpayer an election to capitalize. See Reg. 1.266-1(b)(1)(iv). See also Reg. 1.266-1(b)(2) which provides that if an expense is not otherwise deductible, it may not be capitalized under Sec. 266. This second reference was not important to the petitioner in 2007 (since he could claim a deduction), but it would be now since the new tax law has eliminated the deduction.

The Office of the Chief Counsel first concluded (for reasons detailed In the memo) that “…’carrying charges’ are charges other than interest paid or incurred to carry personal property.” Mutual funds and securities are personal property for purposes of the Internal Revenue Code.

The memo also referred to a tax court case, Ralph E. Purvis v. Comm., 65 T.C. 1165, 3/30/1976. In Purvis, the Court looked to the regulations which authorized the IRS to consider “sound accounting principles” as a basis for determining if a carrying cost may be capitalized. The Court, as a result of its independent research, concluded that generally accepted accounting principles looked unfavorably upon the capitalization of such costs. As a result, the Office of the Chief Counsel opined that “Fees for consulting and advisory services are better viewed as currently deductible investment expense.”

That was fine, then, but not so fine now due to current tax law. Heads I win; tails you lose!