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ERWIN STARR AND HELEN STARR, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentStarr v. CommissionerDocket No. 39314-84
United States Tax Court T.C. Memo 1991-610; 1991 Tax Ct. Memo LEXIS 657; 62 T.C.M. (CCH) 1417; T.C.M. (RIA) 91610;December 10, 1991, Filed*657 Petitioner Erwin Starr, a retired businessman and an active investor, engaged in six series of futures straddles during 1978-80. Those straddles gave rise to short-term and long-term capital losses and gains, which were reported on petitioners' 1978, 1979, and 1980 tax returns. Respondent disallowed those gains and losses.
Held : Petitioners have failed to meet their burden of proof in showing that petitioner Erwin Starr entered into the straddles at issue primarily for profit within the meaning of sec. 108(a) of the Deficit Reduction Act of 1984, Pub. L. 98-369, 98 Stat. 494, 630-631, as amended by the Tax Reform Act of 1986, Pub. L. 99-514, sec. 1808(d), 100 Stat. 2085, 2817-2818.Held further : The losses arising from those straddles are not allowed under sec. 108(a).Held further : Petitioners are liable for an increased rate of interest pursuant tosec. 6621(c) (formerlysec. 6621(d) ) due to a substantial underpayment attributable to one or more tax-motivated transactions.Richard J. Alan Cahan andJoshua N. Bennett W. Robert Abramitis John F. Hernandez , for the respondent.HALPERN,Judge .HALPERNMEMORANDUM OPINION
*658 By notice of deficiency dated September 7, 1984, respondent determined deficiencies in petitioners' Federal income tax as follows:
Tax Year Ending Deficiency December 31, 1978 $ 61,548 December 31, 1979 38,539 December 31, 1980 67,936 By amendment to his answer, respondent also determined that petitioners are liable for an increased rate of interest pursuant to
section 6621(c) section 6621(d) ) due to a substantial underpayment attributable to one or more tax-motivated transactions.While respondent's notice of deficiency raised other issues, the only issues remaining for our decision are, one, whether petitioner Erwin Starr entered into certain futures transactions primarily for profit, permitting him to claim certain capital losses from those futures, and, two, whether*659 the increased interest rate provided by
section 6621(c) applies.Background Petitioners are respectively husband and wife. At the time the petition in this case was filed, petitioners resided in Key Biscayne, Florida. When used in the singular, the term "petitioner" refers to petitioner Erwin Starr. Some of the facts have been stipulated and are found accordingly. By this reference, the stipulation of facts filed by the parties and attached exhibits are incorporated herein.
Petitioner, a retired businessman, is an active investor. During the tax years at issue, his investment activities constituted his sole source of income. He spent as much as 6 hours a day on those activities, consulting with people concerning his investments and reading investment materials. Much of his investing was on a short-term basis and involved trading various corporate and Government securities.
In addition to other investments, petitioner traded commodity futures for roughly 10 years ending early in the 1980's. For the tax years at issue, petitioner used Bear, Stearns & Co. in New York City for trading futures, and his primary broker at Bear Stearns was Arthur Lashinsky. His Bear Stearns*660 account did not permit Mr. Lashinsky or any other person at Bear Stearns to enter and execute trades on petitioner's behalf without his permission. Petitioner's trades took place during normal commodity exchange hours and were not after-hours trades.
For the years at issue, neither one of petitioners nor any of their ancestors, lineal descendants, or trusts in which they were the primary beneficiaries was registered with a domestic board of trade designated by the Commodities Futures Trading Commission as a contract market.
During 1978 through 1982, petitioner traded commodity futures involving soybeans, copper, gold, silver, and Ginnie Mae Certificates and specifically traded the futures detailed in appendix A, comprising six series of commodity straddles. At trial, we found that trades in those futures did indeed occur, as petitioners claim. We note that, while petitioner entered all the futures transactions listed in appendix A during 1978, 1979, and 1980, petitioner closed four of those futures during 1981 and 1982 (years not here at issue). The terms "commodity futures," "straddles," "short" and "long" positions, and certain other terms used in this opinion are terms of*661 art employed in trading futures. In appendix B, we set forth definitions of such terms and briefly discuss the economic rationale for trading futures.
For each series of straddles in appendix A, petitioner opened with a short and a long position in the same commodity. Each position, or leg, was for a different delivery month. After a period of time, petitioner proceeded to switch one leg of the straddle with an identical leg except with a different delivery month. With three of the six series at issue, petitioner engaged in a second switch before closing out both legs in the final transactions. With the other three, petitioner closed out the two legs after only one switch.
The net results of petitioner's futures trading described in appendix A are as follows:
Net Net Net Net Short-Term Short-Term Long-Term Long-Term Capital Gain Capital Loss Capital Gain Capital Loss Net 1978 $ 2,435 $ 142,633 ($ 140,198) 1979 $ 132,736 $ 270,139 $ 137,403 1980 $ 129,611 ($ 129,611) 1981 $ 103,881 $ 51,339 $ 52,542 1982 $ 133,129 $ 61,871 $ 71,258 ($ 8,606) The economic consequences to petitioner go beyond his net loss of $ 8,606. Petitioner had *662 other gains and losses from securities transactions (mostly short-term gains) during the years in question, and the tax losses claimed by petitioners from futures trading served both to defer taxation of such other gains and, to some degree, to convert short-term gains to preferably taxed long-term gains.
In his testimony at trial, petitioner was unable to shed much light on his motivation in entering into these futures. Petitioner's testimony was straightforward and credible; nevertheless, it was unenlightening. When asked to explain his motivation for entering into any one of the futures in question, petitioner responded that he could not remember. In responding to the Court's questions concerning generally the factors that would have been taken into account in any particular trade, petitioner responded: "Judge, I would be -- I just really -- I cannot remember why I -- why these were done. I just can't remember them." Petitioner did not recall whether he reviewed historical price data for particular commodities and was very vague about his strategies for particular trades and his overall trading philosophy. Although petitioner did understand a few terms of art related to commodity*663 futures, petitioner was unsure on which market the relevant commodities were traded and failed to recall the unit sizes in which the commodities were traded. Petitioner's recollections of the basic tax effects of straddle trading were strong.
In addition, while petitioner testified that he discussed his futures trading with his broker, Arthur Lashinsky, and that he read various materials on the potential hazards of such trading, Lashinsky did not testify concerning the content of the discussions, and those materials were not included in the record. Further, petitioner used several accountants during the period in which he traded futures, none of whom testified.
At trial, petitioners attempted to avail themselves of an expert witness who would testify as to petitioner's motivation. That witness, however, was not accepted by the Court as an expert in futures trading and was not allowed to testify as to petitioner's motivation. After petitioners conceded that respondent's expert witness was qualified, respondent's expert witness testified that, absent some theory based on the occurrence of a cataclysmic event, petitioner's trading pattern of taking losses in the current year and*664 carrying the position with unrealized gain into the long-term holding period in the next year was inconsistent with a profit-motivated strategy.
In his notice of deficiency, respondent refused to recognize certain capital losses and gains from petitioner's futures transactions that petitioners claimed on their 1978, 1979, and 1980 tax returns. Those certain losses and gains are:
*665 In response to respondent's notice of deficiency, petitioners timely filed the petition in this case. In a memorandum opinion filed in March 1990, this Court denied petitioners' motion for summary judgment on the issue of petitioner's futures transactions.
Starr v. Commissioner , T.C. Memo 1990-146">T.C. Memo 1990-146In November 1990, respondent filed a motion to allow the filing of an amendment to respondent's answer, which motion we granted. Respondent's
first amendment to answer was then filed. In that amendment, respondent seeks a determination that petitioners are liable for increased interest pursuant tosection 6621(c) , for the tax years at issue. A trial was held in April of this year.In sum, the issues for decision are, one, whether petitioner Erwin Starr entered into certain futures transactions primarily for profit, permitting him to claim certain capital losses from those futures, and, two, whether the increased interest rate provided by
section 6621(c) applies.Discussion We consider here the tax consequences of gains and losses arising from six series of straddles in commodity futures. As a preliminary matter, we note that Congress dealt extensively*666 with the tax consequences of straddle transactions in the Economic Recovery Tax Act of 1981 (ERTA), Pub. L. 97-34, secs. 501-509, 95 Stat. 172, 323-335. ERTA created a new set of rules that were designed to tax straddle transactions on their economic substance. See S. Rept. 97-144, at 147 (1981),
2 C.B. 412">1981-2 C.B. 412 , 470. The ERTA rules in question do not effect the transactions here at issue, as they in general apply only to "property acquired and positions established by the taxpayer after June 23, 1981, in taxable years ending after such date." ERTA sec. 508, 95 Stat. 333.Respondent's Arguments In his notice of deficiency, respondent makes several arguments. First, he asserts that the gains and losses claimed by petitioners should be not be recognized, because petitioners have not established that the transactions actually occurred. That argument is no longer relevant, because, at trial, we found as a fact that the transactions did occur. Second, respondent asserts that each of the transactions was but one step in a series of transactions that must be integrated for tax purposes and which constitute but a single transaction. We have rejected that argument*667 in the past and reject it again here. See
Smith v. Commissioner , 78 T.C. 350">78 T.C. 350820 F.2d 1220">820 F.2d 1220 (4th Cir. 1987). Third, respondent asserts that "such transactions do not represent a sufficient change in economic position to justify recognition for tax purposes of the losses or gains as claimed." We reject that argument, as we do not believe that the facts here support it. SeeGlass v. Commissioner , 87 T.C. 1087">87 T.C. 1087Friedman v. Commissioner , 869 F.2d 785 (4th Cir. 1989)Herrington v. Commissioner , 854 F.2d 755">854 F.2d 755Killingsworth v. Commissioner , 864 F.2d 1214">864 F.2d 1214Bohrer v. Commissioner , 945 F.2d 344 (10th Cir. 1991)Section 108 Section 108 of the Deficit Reduction Act of 1984, Pub. L. 98-369, 98 Stat. 494, 630-631, as amended by the Tax Reform Act of 1986, Pub. L. 99-514, sec. 1808(d), 100 Stat. 2085, 2817-2818, allows certain losses from straddles that are not covered by ERTA. Further references to section 108 will be to section 108 of the Deficit Reduction Act of 1984 as amended in 1986. Section 108 governs here in that it covers pre-ERTA straddles of the type involved in this case. Section 108(a) states:
(a) GENERAL RULE. -- For purposes of the Internal Revenue Code of 1954, in the case of any disposition of 1 or more positions --
(1) which were entered into before 1982 and form part of a straddle, and
(2) to which the amendments made by title V of the Economic Recovery Tax Act of 1981 do not apply,
any loss from such disposition shall be allowed for the taxable year of the disposition if such loss is incurred in a trade or business, or if such loss is incurred in a transaction entered into for profit though not connected with a trade or business.
In
Glass v. Commissioner , 87 T.C. at 1167In summary, *669 then, amended section 108 traces the pattern of the loss provisions of
section 165(c)(1) and(2) , and makes it clear that losses incurred by commodities dealers trading in commodities are deductible under section 108 since they are losses incurred in a trade or business. Investors, on the other hand, must meet the test of loss incurred in a transaction entered into for profit. In the context of commodity straddle transactions, the investor language parallels thesection 165(c)(2) language which we construed inSmith andFox [v. Commissioner , 82 T.C. 1001">82 T.C. 1001Petitioners do not argue that the futures at issue were not part of straddles within the meaning of section 108 and have failed to raise timely the issue whether the disallowed losses were incurred in a trade or business. Our inquiry, therefore, narrows to whether, under section 108, petitioner's losses from straddles in the commodity futures at issue were incurred in transactions entered into for profit, though not connected with a trade or business. We have*670 found that the profit-motive test of section 108 was intended to be similar to the test found in
section 165(c)(2) .Boswell v. Commissioner , 91 T.C. 151">91 T.C. 151Boswell , we found that test to be whether the taxpayer entered the relevant transactionsprimarily for profit. SeeFox v. Commissioner , 82 T.C. 1001">82 T.C. 1001We previously have summarized the guidelines for that test as found in
Fox v. Commissioner ,supra Smith v. Commissioner ,supra (1) The ultimate issue is profit motive and not profit potential. However, profit potential is a relevant factor to be considered in determining profit motive.
(2) Profit motive refers to economic profit independent of tax savings.
(3) The determination of profit motive must be made with reference to the spread positions of the straddle and not merely to the losing legs, since it is the overall scheme which determines the deductibility or nondeductibility of the loss.
(4) If there are two or more motives, it must be determined which is primary, or of first importance. The determination is essentially*671 factual, and greater weight is to be given to objective facts than to self-serving statements characterizing intent.
(5) Because the statute speaks of motive in "entering" a transaction, the main focus must be at the time the transactions were initiated. However, all circumstances surrounding the transactions are material to the question of intent.
Ewing v. Commissioner , 91 T.C. 396">91 T.C. 396940 F.2d 1536">940 F.2d 1536 (9th Cir. 1991) (citations omitted).Normally, a taxpayer would have to prove not only that he had a profit motive in entering the relevant transactions, but that such profit motive was primary. However, as in
Ewing v. Commissioner , 91 T.C. at 418Fox v. Commissioner , 82 T.C. at 1021-1022Ewing v. Commissioner , 91 T.C. at 418Petitioner's Primary Motive We hold that petitioners have failed to meet their burden of proof in showing that petitioner entered into the futures transactions at issue primarily for profit.
First, petitioner's trading pattern generally followed the pattern of an investor interested in commodity straddles for tax reasons. Although petitioners' tax returns do show that, during the tax years before us, petitioner engaged in other futures transactions that are not at issue here, the transactions before us represent the majority of petitioner's futures transactions during those years, in terms of both number and size of losses and gains.
Stoller v. Commissioner , T.C. Memo 1990-659">T.C. Memo 1990-659Etshokin v. Commissioner , T.C. Memo 1990-271">T.C. Memo 1990-271In a typical tax straddle, the taxpayer attempts to postpone the taxability of short-term capital gains by moving them into future years (deferral) and possibly converting them to longterm capital gains (conversion), all with the minimum economic risk associated with straddles. In
Smith v. Commissioner , 78 T.C. at 363-366Ewing v. Commissioner , 91 T.C. at 400-401Petitioner's trading pattern reflected the pattern of a typical tax-motivated*674 trader. Almost all the disallowed gains and losses reflect the ideal results for a taxpayer with a tax motive. See
Ewing v. Commissioner , 91 T.C. at 419Fox v. Commissioner , 82 T.C. at 1022Second, although actual profits are not a prerequisite to the deductibility of losses, a record of continued losses over a period of time may be an important factor bearing on the taxpayer's true intentions.
Fox v. Commissioner , 82 T.C. at 1023Bessenyey v. Commissioner , 45 T.C. 261">45 T.C. 261379 F.2d 252">379 F.2d 252 (2d Cir. 1967)). Petitioner was an active and experienced investor who spent an extensive amount of time handling his investments. Despite*675 that time and experience, however, petitioner's results from the six series of straddles listed in appendix A show that, on a net basis, petitioner lost money from those straddles. While petitioner's net loss from the series of straddles was less than $ 9,000, and while his largest loss from an individual series of straddles was less than $ 7,000, petitioner used in 1978 and 1980 over $ 250,000 in net capital losses from his futures trading to offset other capital gains. Further, petitioner's losses from those straddles contrast with his success in stock and arbitrage investments as reflected in the extensive capital gains claimed by petitioners for 1978, 1979, and 1980.Third, petitioners presented no evidence that the commodity straddles at issue had the objective potential to earn an economic profit. At trial, we disqualified petitioners' expert witness from testifying regarding the objective profit potential of those straddles, because we found that the witness had insignificant experience and knowledge. In contrast, at trial, respondent's expert witness testified that, absent some theory based on the occurrence of a cataclysmic event, petitioner's trading pattern was inconsistent*676 with any profit-motivated strategy.
Fourth, although petitioner testified that he had a primary profit motive, his testimony was not corroborated by the testimony of others, and he presented no contemporaneous evidence of his subjective intent. Petitioner presented none of the materials on futures trading that he testified to have read, and Arthur Lashinsky, petitioner's broker at Bear Stearns, did not testify concerning the content of his discussions with petitioner. Testimony from Lashinsky might have revealed whether or not, and the extent to which, petitioner discussed with him the tax consequences or the profit potential of his futures trading. Also, petitioner apparently used several accountants during the period in which he traded commodity futures, but none of them testified. Testimony from his accountants, of course, might have revealed the extent of petitioner's interest, or lack of interest, in the tax consequences of futures. In sum, we cannot assume that the testimony of absent witnesses would have been favorable to the party with the burden of proof; indeed, the normal inference is that the testimony would be unfavorable.
Marcus v. Commissioner , T.C. Memo 1988-3">T.C. Memo 1988-3Finally, we have nothing here evidencing petitioner's motivation other than petitioner's own uncorroborated testimony, which testimony we find to be of little or no probative value. See
Smith v. Commissioner , 78 T.C. at 394Marcus v. Commissioner ,supra .Stoller v. Commissioner , T.C. Memo 1990-659">T.C. Memo 1990-659We, of course, are aware that tax planning is an economic reality in the business world and the effect of tax laws is routinely considered along with other factors. The question here concerns petitioner's primary motive in entering the commodity straddles at issue. Petitioners bear the*678 burden of proof. Rule 142(a). We find that petitioner has failed to show that he had the requisite profit motive. Therefore, we uphold respondent's determinations regarding the short-term capital losses disallowed by respondent. We, however, note that section 108(c) applies to the futures transactions detailed in appendix A.
49 Fed. Reg. 33445 (Aug. 23, 1984). ("Under section 108(c) of the Act the taxpayer is allowed to offset the gain in the subsequent taxable year by the amount of loss (including expenses) disallowed in year 1."). The parties should take section 108(c) into account in making the computations required by Rule 155.*679
Increased Rate of Interest In an amended answer, respondent seeks increased interest pursuant to
section 6621(c) (formerly 6621(d)). Respondent has the burden of proof with respect to the increased interest.Ewing v. Commissioner , 91 T.C. at 422The increased interest provided by
section 6621(c) applies to any substantial underpayment of income taxes attributable to one or more tax-motivated transactions. This increased interest accrues after December 31, 1984, even though the transaction was entered into prior to the date of enactment ofsection 6621(c) .Ewing v. Commissioner , 91 T.C. at 422Section 6621(c)(3)(A)(iii) defines the term "tax-motivated transaction" to include any straddle. See sec. 301.6621-2T, Q & A-2, Temporary Proced. & Admin. Regs.,49 Fed. Reg. 50391 (Dec. 28, 1984). Consequently, any underpayment of income taxes by petitioners derived from the claimed straddle losses is attributable to a tax-motivated transaction and subject tosection 6621(c) .Sec. 6621(c)(3)(A)(iii) ;Ewing v. Commissioner , 91 T.C. at 422Decision will be entered under Rule 155 .*680
APPENDIX A ERWIN STARR -- TRANSACTIONS IN COMMODITY FUTURES
*681LINE TRADE POSITION DELIVERY COMMODITY CONTRACTS DATE DATE (QUANTITY) 1 7/20/78 short July 1979 copper 9 2 7/20/78 long Dec 1979 (25,000 lbs 9 per contract) 3 8/21/78 long July 1979 9 4 8/21/78 short Sept 1979 9 5 9/6/78 long Sept 1979 9 6 9/6/78 short Jan 1980 9 7 1/23/79 long Jan 1980 9 8 1/23/79 short Dec 1979 9 1 7/20/78 short Dec 1979 silver 30 2 7/20/78 long Jan 1980 (5,000 ounces 30 per contract) 3 8/1/78 long Dec 1979 30 4 8/1/78 short March 1980 30 5 1/23/79 short Jan 1980 30 6 1/23/79 long March 1980 30 1 7/20/78 short June 1979 gold 22 2 7/20/78 long Aug 1979 (100 ounces 22 per contract) 3 8/1/78 short April 1979 22 4 8/1/78 long June 1979 15 5 8/1/78 long June 1979 7 6 1/23/79 long April 1979 22 7 1/23/79 short Aug 1979 22 1 7/21/78 short May 1979 soybeans 70,000 bu 2 7/21/78 long July 1979 70,000 3 8/24/78 long May 1979 70,000 4 8/24/78 short Aug 1979 70,000 5 1/23/79 short July 1979 70,000 6 1/23/79 long Aug 1979 70,000 1 11/26/80 short Dec 1981 gold 6 2 11/26/80 long April 1982 (100 ounces 6 per contract) 3 12/10/80 long Oct 1981 6 4 12/10/80 short April 1982 6 5 12/12/80 short Oct 1981 6 6 12/12/80 long Feb 1982 6 7 2/6/81 long Dec 1981 6 8 2/6/81 short Feb 1982 6 1 11/26/80 long March 1982 Ginnie Mae 15 2 11/26/80 short Sept 1982 Certificates 15 (Face Ammount) 3 12/12/80 short March 1982 of $ 100,000) 15 4 12/12/80 long June 1982 15 5 12/19/80 long Sept 1982 15 6 12/19/80 short Dec 1982 15 7 12/23/80 short Sept 1982 15 8 12/23/80 long Dec 1982 15 9 5/26/82 short June 1982 15 10 5/26/82 long Sept 1982 15 LINE TRADE RATE PRICE COMMISSION GAIN/LOSS CLOSES DATE (LINE) 1 7/20/78 $ .6675/lb $ 150,187.50 2 7/20/78 .6920 155,700.00 3 8/21/78 .6910 155,475.00 $ 40.50 ($ 5,328) 1 4 8/21/78 .6980 157,050.00 5 9/6/78 .6870 154,575.00 40.50 2,435 4 6 9/6/78 .7000 157,500.00 7 1/23/79 .7745 174,262.50 328.50 (17,091) 6 8 1/23/79 .7715 173,587.50 328.50 17,559 2 NET ($ 2,425) 1 7/20/78 $ 5.9850/oz $ 897,750 2 7/20/78 6.0300 904,500 3 8/1/78 6.3850 957,750 $ 1,095 ($ 61,095) 1 4 8/1/78 6.5250 978,750 5 1/23/79 6.7500 1,012,500 1,095 106,905 2 6 1/23/79 6.8390 1,025,850 1,095 (48,195) 4 NET ($ 2,385) 1 7/20/78 $ 204.10/oz $ 449,020 2 7/20/78 207.40 456,280 3 8/1/78 221.00 486,200 4 8/1/78 224.50 336,750 $ 547.50 ($ 31,148) 1 5 8/1/78 224.40 157,080 255.50 (14,465) 1 6 1/23/79 235.00 517,000 803 (31,603) 3 7 1/23/79 243.90 536,580 803 79,497 2 NET $ 2,281 1 7/21/78 $ 6.28/bu $ 439,600 2 7/21/78 6.29 3/4 440,825 3 8/24/78 6.71 469,700 $ 497 ($ 30,597) 1 4 8/24/78 6.69 468,300 5 1/23/79 7.25 507,500 497 66,178 2 6 1/23/79 7.195 503,650 497 (35,847) 4 NET ($ 266) 1 11/26/80 $ 736.40/oz $ 441,840 2 11/26/80 775 465,000 3 12/10/80 655.40 393,240 4 12/10/80 705.10 423,060 $ 159 ($ 42,099) 2 5 12/12/80 627.50 376,500 489 (17,229) 3 6 12/12/80 661 396,600 7 2/6/81 563 337,800 159 103,881 1 8 2/6/81 575.70 345,420 159 (51,339) 6 NET ($ 6,786) 1 11/26/80 69 10/32 $ 1,039,687.50 2 11/26/80 69 11/32 1,040,156.25 3 12/12/80 67 3/32 1,006,406.25 $ 1,064.95 ($ 34,346) 1 4 12/12/80 67 8/32 1,008,750.00 5 12/19/80 71 1/32 1,065,468.75 390 (25,703) 2 6 12/19/80 70 30/32 1,064,062.50 7 12/23/80 71 22/32 1,075,312.50 8 12/23/80 71 19/32 1,073,906.25 390.05 (10,234) 6 9 5/26/82 63 5/32 947,343.75 464.95 (61,871) 4 10 5/26/82 62 25/32 941,718.75 465.05 133,129 7 NET $ 975 NET GAIN/(LOSS) FROM TRANSACTIONS IN COMMODITY FUTURES NET ($ 8,606) *682
Explanation of Columns :Trade Date = date position established
Position = position established, long or short
Gain/Loss = gain or loss when position closed, including any commissions
Closes (Line) = line of old position which new position closes
APPENDIX B We describe below some terms of art used in trading futures. See
Ewing v. Commissioner , 91 T.C. 396">91 T.C. 396940 F.2d 1536">940 F.2d 1536 (9th Cir. 1991);Smith v. Commissioner , 78 T.C. 350">78 T.C. 350820 F.2d 1220">820 F.2d 1220 (4th Cir. 1987).A commodity futures contract is a firm commitment to deliver or receive a specified quantity of a commodity during a designated future month at a designated price. Each such contract is called a "position." A position is "long" if the contract requires the holder to purchase the designated commodity. A position is "short" if a contract requires the holder to sell a designated commodity. When only one position is held, the holder is described as holding an "open position." A futures contract may be offset or closed out by taking the opposite position*683 in the same commodity for the same month.
A "straddle" involves simultaneously holding a long position in a commodity for one delivery month and a short position in the same commodity for a different delivery month. Each position in a straddle is known as a "leg," and the difference between the market value of each leg is called the "spread." In a straddle, the holder is concerned primarily with the spread. A "switch" occurs when one leg of a straddle is closed out and is replaced by an identical leg except with a different delivery month, resulting in a new straddle.
The economic profit or loss of an open position is directly affected by changes in the direction of the market. In contrast, the economic profit or loss of a straddle is affected only by whether the spread widens or narrows. Acquiring a commodity straddle carries less risk than acquiring an open position, because the spread will be less volatile than the price of either leg. With a straddle, the holder is both a purchaser and seller of the same commodity. Since each leg of a straddle requires delivery of the commodity during different months, any price changes in the two legs will be related, but not always identical. *684 The price of each leg of a straddle will be affected by similar economic conditions, and the loss on one leg generally will be offset largely by the gain on the other leg. If the spread widens or narrows, a gain or loss will be incurred. In turn, if the spread remains constant, no gain or loss would be incurred, because any price changes produces an unrealized gain in one leg and an offsetting unrealized loss in the other leg.
Footnotes
1. Unless otherwise indicated, all section references are to the Internal Revenue Code of 1954 as amended and in effect for the years in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure.↩
2. There appears to be an inconsistency between (a) these capital losses and gains as reflected on petitioners' tax returns and respondent's notice of deficiency and (b) the losses and gains that are reflected in Joint Exhibit 5-E and Appendix A to this opinion. Any such inconsistency can be resolved in the computations required under Rule 155.↩
3. Respondent also asserts in the notice of deficiency that, if the transactions were entered into for profit, the claimed losses should be limited to the amount at risk. We do not need to consider that argument and refer respondent to
Laureys v. Commissioner , 92 T.C. 101">92 T.C. 1014. For example, on their 1978 tax return, petitioners claimed gains and losses related to four corn futures, none of which was over $ 1,100. For 1979, petitioners claimed gains and losses related to six other copper and gold futures, none of which was over $ 10,000. For 1980, respondent disallowed all claimed gains and losses arising from commodity futures.↩
5. Sec. 108(c) of the Deficit Reduction Act of 1984, Pub. L. 98-369, 98 Stat. 494, 630, provides that:
If any loss with respect to a position described in paragraphs (1) and (2) of subsection (a) is not allowable as a deduction (after applying subsections (a) and (b)), such loss shall be allowed in determining the gain or loss from dispositions of other positions in the straddle to the extent required to accurately reflect the taxpayer's net gain or loss from all positions in such straddle.↩
Document Info
Docket Number： Docket No. 39314-84
Judges： HALPERN
Filed Date： 12/10/1991
Precedential Status： Non-Precedential
Modified Date： 11/21/2020