Mixed Straddles; Straddle-by-Straddle Identification Under Section 1092

SUMMARY: This document contains final regulations relating to section 1092 identified mixed straddles established after August 18, 2014. The final regulations explain how to account for unrealized gain or loss on a position held by a taxpayer prior to the time the taxpayer establishes a mixed straddle using straddle-by-straddle identification.

EFFECTIVE DATE: Effective Date: These regulations are effective on July 18, 2014.

Applicability Date: For the date of applicability, see SEC 1.1092(b)-6(e).

FOR FURTHER INFORMATION CONTACT: Pamela Lew of the Office of Associate Chief Counsel (Financial Institutions and Products) at (202) 317-6945 (not a toll-free number).

SUPPLEMENTARY INFORMATION: The Deficit Reduction Act of 1984, Public Law 98-369, amended section 1092 of the Internal Revenue Code (Code) relating to straddles. As amended, section 1092(b) instructed the Treasury Department and the IRS to write regulations governing mixed straddles. Regulations governing mixed straddles were issued in 1985, including SEC 1.1092(b)-2T (relating to holding periods and losses with respect to straddle positions) and SEC 1.1092(b)-3T (relating to mixed straddles) (collectively, the 1985 temporary regulations).

This document contains amendments to the Income Tax Regulations (26 CFR part 1) relating to mixed straddles subject to straddle-by-straddle identification under section 1092(b)(2)(A)(i)(I) (identified mixed straddles). On August 2, 2013, the Treasury Department and the IRS published in the Federal Register temporary regulations relating to identified mixed straddles (TD 9627 at 78 FR 46807) and a notice of proposed rulemaking cross-referencing the temporary regulations (REG-112815-12 at 78 FR 46854). The temporary regulations added SEC 1.1092(b)-6T, which provides that unrealized gain or loss on a position held prior to the establishment of an identified mixed straddle is taken into account at the time and has the character provided by provisions of the Code that would apply if the identified mixed straddle had not been established. The temporary regulations changed the timing of the recognition of the unrealized gain or loss as compared to SEC 1.1092(b)-3T(b)(6) of the 1985 temporary regulations, which provides that unrealized gain or loss on a position that becomes a position in an identified mixed straddle is recognized on the day prior to establishing the identified mixed straddle.

Section 1.1092(b)-6T applied to identified mixed straddles established after August 1, 2013, the date of filing of TD 9627 in the Federal Register . However, in response to comments raising concerns about the immediate applicability date of the temporary regulations, the regulations were corrected on October 29, 2013, to revise the applicability date (TD 9627 at 78 FR 64396 and REG-112815-12 at 78 FR 64430). As corrected, SEC 1.1092(b)-6T would apply to identified mixed straddles established after the date of publication of the final regulations in the Federal Register .

Written comments were received on the notice of proposed rulemaking and a public hearing was held on December 4, 2013. All comments were considered and the written comments are available for public inspection at http://www.regulations.gov or upon request.

After consideration of all comments, these final regulations adopt the provisions of the proposed regulations with certain clarifications, and the corresponding temporary regulations are removed. The comments and clarifications are discussed in this preamble.

Summary of Comments and Explanation of Revisions

In response to the request for comments in the notice of proposed rulemaking, several comments were received. The comments address three general categories of issues: (1) the immediate applicability date of SEC 1.1092(b)-6T; (2) the character mismatch and timing of gain or loss recognition for assets held by insurance companies; and (3) certain technical rules in the 1985 temporary regulations and the temporary regulations relating to identified mixed straddles.

1. Applicability Date

As previously noted, in response to comments raising concerns about the immediate applicability date of the temporary regulations, the regulations were corrected on October 29, 2013, to revise the applicability date. As corrected, SEC 1.1092(b)-6T would apply to identified mixed straddles established after the date of publication of final regulations in the Federal Register . The correction notices informed taxpayers that the Treasury Department and the IRS anticipated finalizing the regulations no later than June 30, 2014.

One commenter asked that the applicability date be delayed for at least six months after the publication date of the final regulations in the Federal Register .

Because the Treasury Department and the IRS believe that the additional time provided by the correction notices has provided taxpayers with ample notice, these final regulations apply to identified mixed straddles established after August 18, 2014.

2. Character Mismatch and Timing of Gain or Loss Recognition for Assets Held by Insurance Companies

Commenters noted that insurance companies generally are buy-and-hold investors that hold portfolio bonds to maturity absent other events compelling disposition. Bonds held by an insurance company are capital assets and the interest income generated by those assets is ordinary in nature. Consequently, when an insurance company sells a bond (sometimes pursuant to instructions from a regulator in the case of a bond that has deteriorated in credit quality), the sale may result in a capital loss that does not offset for tax purposes the ordinary income generated by the bond and other portfolio assets. The capital loss may expire unused unless the insurance company recognizes an offsetting capital gain. According to the commenters, the use of the existing regulations to generate capital gains allows an insurance company to avoid the transaction costs, risks of being unable to acquire suitable replacement property, and unfavorable accounting treatment associated with a sale and repurchase of appreciated bonds. The commenters requested that no new regulations on identified mixed straddles be issued because insurance companies rely on the existing regulations to control the timing of capital gain recognition on bonds in their portfolio.

The fact that bonds generate ordinary income on periodic payments but capital gain or loss on disposition (when held as a capital asset) is not unique to insurance companies, and is a fundamental aspect of debt (as well as stock) investments. Section 1092 was not intended to alleviate character mismatches on debt portfolios. The Treasury Department and the IRS believe that using the section 1092(b)(2) identified mixed straddle rules as an alternative to selling or otherwise disposing of a position undermines the realization requirements that generally govern gain and loss recognition. These regulations are therefore being adopted to prevent selective recognition of gains and losses through the mechanism of an identified mixed straddle even though no disposition has occurred.

3. Technical Rules Relating to Identified Mixed Straddles

One commenter stated that the 1985 temporary regulations do not define what it means for gain or loss to be "attributable to" a section 1092(b)(2) identified mixed straddle period and asked the Treasury Department and the IRS to modify SEC 1.1092(b)-3T to address this issue. The commenter also requested an amendment to the 1985 temporary regulations to clarify the treatment of a net loss on the disposition of a section 1256 contract when there is an unrecognized gain in the retained non-section 1256 position.

Because these comments pertain to the operation of the 1985 temporary regulations, they are outside the scope of the proposed regulations, and the Treasury Department and the IRS do not believe that it is appropriate to address these comments in these final regulations. These final regulations are intended to address only the time for recognizing gain or loss that has accrued up to the date a taxpayer enters into an identified mixed straddle. All other rules that apply to an identified mixed straddle under the 1985 temporary regulations continue to apply.

The commenter also requested an amendment to the 1985 temporary regulations to clarify whether the rule in SEC 1.1092(b)-2T(c)(2) that resets the holding period on positions in an identified mixed straddle (holding period reset rule) continues to apply under these regulations, even to a position that had been held for the long-term holding period prior to the time the identified mixed straddle was established. Under the holding period reset rule, when an identified mixed straddle is established, the holding periods of all positions in that identified mixed straddle are reset to zero, and a position does not begin to accrue holding period until it is no longer part of a straddle.

--This is a summary of a Federal Register article originally published on the page number listed below--

Final regulations and removal of temporary regulations.

CFR Part: "26 CFR Part 1"

RIN Number: "RIN 1545-BK99"

Citation: "79 FR 41886"

Document Number: "TD 9678"

Federal Register Page Number: "41886"

"Rules and Regulations"