Regulated investment company (RIC). This
ruling modifies Rev. Rul. 2006-1 to extend until September 30, 2006, the transition
period provided by that ruling, and clarifies that Rev. Rul. 2006-1 was not
intended to preclude a conclusion that income from certain instruments (such
as structured notes) that create a commodity exposure for the holder is qualifying
income under section 851(b)(2) of the Code. Rev. Rul. 2006-1 modified and
clarified.
Rev. Rul. 2006-1, 2006-2 I.R.B. 261, discusses derivative contracts
with respect to a commodity index (“Derivatives”) that a regulated
investment company (R) enters into under Master Agreements
with various counterparties. Under the Derivatives, R will
pay an amount equal to the 3-month U.S. Treasury bill rate plus a spread and
will receive (or pay) an amount based on the total return gain (or loss) on
a commodity index. The payment obligation on each Derivative is settled monthly
by the receipt (in the event of a gain) or payment (in the event of a loss)
of cash, in the net amount under the contract, and each monthly measuring
period constitutes a separate derivative contract under the Master Agreements.
Rev. Rul. 2006-1 holds that a derivative contract with respect to a
commodity index is not a security for purposes of section 851(b)(2) of the
Internal Revenue Code and that, under the facts stated in the ruling, R’s
income from the contract is not qualifying income for purposes of section
851(b)(2), because the income from the contract is not derived with respect
to R’s business of investing in stocks, securities,
or currencies. Rev. Rul. 2006-1 further provides that under the authority
of section 7805(b)(8), the holding of the revenue ruling will not be applied
adversely with respect to amounts of income that a taxpayer recognizes on
or before June 30, 2006.
It has come to the attention of the Service that some taxpayers are
questioning whether the holding of the revenue ruling applies to investments
by regulated investment companies (RICs) in all derivative contracts with
respect to a commodity index, including for example structured notes, rather
than just to the Derivatives described in the revenue ruling.
The ruling was not intended to preclude a conclusion that the income
from certain instruments (such as certain structured notes) that create a
commodity exposure for the holder is qualifying income under section 851(b)(2).
Accordingly, to clarify the holding of Rev. Rul. 2006-1, the HOLDING section
is revised to read:
A Derivative is not a security for purposes of section 851(b)(2). Under
the facts above, R’s income from a Derivative is
not qualifying income for purposes of section 851(b)(2), because the income
from the contract is not derived with respect to R’s
business of investing in stocks, securities, or currencies.
In addition, some taxpayers have questioned whether the prospective
application of the ruling is limited to the Derivatives described in the revenue
ruling or includes all derivative contracts with respect to a commodity index
or an individual commodity, including, for example, commodity futures contracts.
The Service has also been informed that, due to temporary demand/supply imbalances,
some RICs that had previously invested in derivative contracts similar to
the Derivatives described in Rev. Rul. 2006-1 are having difficulty in acquiring
alternative commodity-linked investments that result in qualifying income
for purposes of section 851(b)(2).
The prospective application of the ruling was intended to apply to all
derivative contracts with respect to a commodity index or an individual commodity.
Accordingly, to alleviate temporary supply/demand pressure and to clarify
the scope of the PROSPECTIVE APPLICATION section of Rev. Rul. 2006-1, that
section is revised to read:
Under the authority of section 7805(b)(8), the holding of this revenue
ruling will not be applied adversely with respect to amounts of income that
a taxpayer recognizes on or before September 30, 2006, from a Derivative.
Neither will the Service apply the principles set forth in this revenue ruling
adversely with respect to amounts of income recognized on or before September
30, 2006, by a taxpayer from a derivative contract (including an option, futures
or forward contract) on a commodity index or an individual commodity.
EFFECT ON OTHER DOCUMENTS
Rev. Rul. 2006-1 is modified and clarified.
The principal author of this revenue ruling is Dale S. Collinson of
the Office of the Associate Chief Counsel (Financial Institutions & Products).
For further information regarding this revenue ruling, contact him at (202)
622-3900 or Susan Thompson Baker at (202) 622-3930 (not toll-free calls).
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