Read the field advice memo 20131902F [PDF 81 KB]
*Pursuant to section 6110(k)(3), written determinations such as field service advice represent the IRS’s analysis of the law as applied to a taxpayer’s specific facts, and they are not intended to be relied upon by third parties and may not be cited as precedent. They do, however, provide an indication of the IRS’s position on the issues addressed.
The taxpayer is the parent company and holds 100% of four subsidiaries. On its tax return for the tax year ending December 31, 2011, the taxpayer reported on Form 1120, Schedule C, the receipt of dividends from the subsidiaries and a dividend received deduction.
At issue is a portion of dividends received from corporations that the taxpayer had purchased S&P 500 options (put and call options) so to hedge its exposure to fluctuations in the fair market value of these corporations.
Field advice memo conclusions
The IRS field advice memo made three assumptions:
- That the options held by the taxpayer represented a “position” under Reg. section 1.246-5(b)(3)
- That the options diminished the risk of loss with respect to the equity holdings of the related-party subsidiaries under Reg. section 1.246-5(b)(2)
- That the options qualified as substantially similar or related property with respect to the stock under Reg. section 1.246-5
Accordingly, the field advice memo addressed only one question—i.e., whether the S&P 500 options held by the taxpayer were to be treated as a position held by the related- party subsidiaries under Reg. section 1.246-5(c)(6), which would limit the holding period of the related parties’ equity portfolio under section 246(c)(4)(C) and deny a portion of the taxpayer’s dividend received deduction under section 243.
As the memo noted, the taxpayer is the parent of an affiliated group that files a consolidated return—a group that includes the subsidiaries. Upon entering these options, the taxpayer knew that the positions would offset the domestic equity portfolio accounts of the subsidiaries and, in fact, entered into the option strategy in order to offset risk of loss in the equity portfolios. As a consequence, there were sufficient grounds to demonstrate that the positions were held with the view to avoiding application of section 246(c)(4)(C).
As the memo continued to note, even if the taxpayer had other business reasons for hedging the assets of its subsidiaries in this manner, these business reasons would not alter the conclusion that the options were executed with the circumscribed purpose to diminish the risk of loss with respect to the stocks under section 246.
The memo concludes that the taxpayer’s options are treated as positions held by the subsidiaries for purposes of applying section 246(c)(4)(C). Thus, the holding period of the subsidiaries’ equity portfolio is limited by section 246(c)(4)(C), and this results in the denial of a portion of the dividend received deduction claimed by the taxpayer under section 243.