State refund can lead to trouble with Uncle Sam

Q: About seven years ago, I did not report a state refund as income on my federal tax return. I wound up paying interest plus a substantial penalty. Was the IRS wrong?

L.G., Warren, Mich.

A: Not necessarily. According to an IRS spokesperson, how to deal with refunds is spelled out in the booklet that accompanies the 1040 tax return.

As a general rule, if you claim a deduction for state income taxes that you paid one year, but then get back part of that amount in a subsequent year, you would have to report the refund as income in the year you got the refund check.

Q:I received 50 shares of AT&T stock from my mother in 1975, while she was st ill living. She had purchased them in small amounts between 1945 through 1955. I would like to sell some of them, but I have no record of what she paid for them and AT&T has no records either. Moreover, those shares were issued before AT&T stock split. How should I establish a base price for tax purposes?

B.R., Menomonee Falls, Wis.

A: "The good news is that your stock holdings are not so large in value that the IRS will want to spend an inordinately large amount of time on the issue," says a financial planner here. "The bad news is that you are facing an almost insurmountable challenge in getting exact purchase-price numbers to determine your cost basis."

The solution, the planner says, is to "make the best-faith effort you can to pin down some numbers."

Call several major brokers and see if they have historical data on the price of AT&T shares from 1945 to 1955.

The planner suggests you split the holdings from that period into three time periods, for 1945, 1950, and 1955. Then, assign a third of your shares to the purchase price of each of those three years. Be sure you adjust for any stock splits, he says.

Add a note to your tax return showing the IRS how you came to your cost basis, and that you did the best you could, based on the lack of precise numbers.

Finally, the financial planner says this case shows the importance of always pinning down share prices when you get a gift of stock. Always say "thank you." Then, immediately ask, "by the way, how much did you pay for the stock?"

Write the price down and save it for the tax man, he says.

- Guy Halverson

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