I

106TH CONGRESS

1ST SESSION H. R. 1703

To amend the Internal Revenue Code of 1986 to prevent the conversion

of ordinary income or short-term capital gain into income eligible for

the long-term capital gain rates, and for other purposes.

IN THE HOUSE OF REPRESENTATIVES

MAY 5, 1999

Mr. NEAL of Massachusetts introduced the following bill; which was referred

to the Committee on Ways and Means

A BILL

To amend the Internal Revenue Code of 1986 to prevent

the conversion of ordinary income or short-term capital

gain into income eligible for the long-term capital gain

rates, and for other purposes.

1 Be it enacted by the Senate and House of Representa2 tives of the United States of America in Congress assembled,

3 SECTION 1. TREATMENT OF GAIN FROM CONSTRUCTIVE

4 OWNERSHIP TRANSACTIONS.

5 (a) IN GENERAL.—Part IV of subchapter P of chap6 ter 1 of the Internal Revenue Code of 1986 (relating to

7 special rules for determining capital gains and losses) is
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1 amended by inserting after section 1259 the following new

2 section:

3 ‘‘SEC. 1260. GAINS FROM CONSTRUCTIVE OWNERSHIP

4 TRANSACTIONS.

5 ‘‘(a) IN GENERAL.—If the taxpayer has gain from

6 a constructive ownership transaction with respect to any

7 financial asset and such gain would (without regard to this

8 section) be treated as a long-term capital gain—

9 ‘‘(1) such gain shall be treated as short-term

10 capital gain to the extent that such gain exceeds the

11 net underlying long-term capital gain, and

12 ‘‘(2) to the extent such gain is treated as a

13 long-term capital gain after the application of para14 graph (1), the determination of the capital gain rate

15 (or rates) applicable to such gain under section 1(h)

16 shall be determined on the basis of the respective

17 rate (or rates) that would have been applicable to

18 the net underlying long-term capital gain.

19 ‘‘(b) INTEREST CHARGE ON DEFERRAL OF GAIN

20 RECOGNITION.—

21 ‘‘(1) IN GENERAL.—If any gain is treated as

22 short-term capital gain for any taxable year by rea23 son of subsection (a)(1), the tax imposed by this

24 chapter for such taxable year shall be increased by

25 the amount of interest determined under paragraph
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1 (2) with respect to each prior taxable year during

2 any portion of which the constructive ownership

3 transaction was open. Any amount payable under

4 this paragraph shall be taken into account in com5 puting the amount of any deduction allowable to the

6 taxpayer for interest paid or accrued during such

7 taxable year.

8 ‘‘(2) AMOUNT OF INTEREST.—The amount of

9 interest determined under this paragraph with re10 spect to a prior taxable year is the amount of inter11 est which would have been imposed under section

12 6601 on the underpayment of tax for such year

13 which would have resulted if the gain (which is

14 treated as short-term gain by reason of subsection

15 (a)(1)) had been included in gross income in the tax16 able years in which it accrued (determined by treat17 ing the gain as accruing at a constant rate equal to

18 the applicable Federal rate as in effect on the day

19 the transaction closed). The period during which

20 such interest shall accrue shall end on the due date

21 (without extensions) for the return of tax imposed

22 by this chapter for the taxable year in which such

23 transaction closed.

24 ‘‘(3) APPLICABLE FEDERAL RATE.—For pur25 poses of paragraph (2), the applicable Federal rate
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1 is the applicable Federal rate determined under

2 1274(d) (compounded semiannually) which would

3 apply to a debt instrument with a term equal to the

4 period the transaction was open.

5 ‘‘(4) NO CREDITS AGAINST INCREASE IN TAX.—

6 Any increase in tax under paragraph (1) shall not

7 be treated as tax imposed by this chapter for pur8 poses of determining—

9 ‘‘(A) the amount of any credit allowable

10 under this chapter, or

11 ‘‘(B) the amount of the tax imposed by

12 section 55.

13 ‘‘(c) FINANCIAL ASSET.—For purposes of this

14 section—

15 ‘‘(1) IN GENERAL.—The term ‘financial asset’

16 means—

17 ‘‘(A) any equity interest in any pass-thru

18 entity, and

19 ‘‘(B) to the extent provided in

20 regulations—

21 ‘‘(i) any debt instrument, and

22 ‘‘(ii) any stock in a corporation which

23 is not a pass-thru entity.

24 ‘‘(2) PASS-THRU ENTITY.—For purposes of

25 paragraph (1), the term ‘pass-thru entity’ means—
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1 ‘‘(A) a regulated investment company,

2 ‘‘(B) a real estate investment trust,

3 ‘‘(C) an S corporation,

4 ‘‘(D) a partnership,

5 ‘‘(E) a trust,

6 ‘‘(F) a common trust fund,

7 ‘‘(G) a passive foreign investment company

8 (as defined in section 1297),

9 ‘‘(H) a foreign personal holding company,

10 and

11 ‘‘(I) a foreign investment company (as de12 fined in section 1246(b)).

13 ‘‘(d) CONSTRUCTIVE OWNERSHIP TRANSACTION.—

14 For purposes of this section—

15 ‘‘(1) IN GENERAL.—The taxpayer shall be

16 treated as having entered into a constructive owner17 ship transaction with respect to any financial asset

18 if the taxpayer—

19 ‘‘(A) holds a long position under a notional

20 principal contract with respect to the financial

21 asset,

22 ‘‘(B) enters into a forward or futures con23 tract to acquire the financial asset,

24 ‘‘(C) is the holder of a call option, and is

25 the grantor of a put option, with respect to the
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1 financial asset and such options have substan2 tially equal strike prices and substantially con3 temporaneous maturity dates, or

4 ‘‘(D) enters into 1 or more other trans5 actions (or acquires 1 or more positions) that

6 have substantially the same effect as a trans7 action described in any of the preceding sub8 paragraphs.

9 ‘‘(2) EXCEPTION FOR POSITIONS WHICH ARE

10 MARKED TO MARKET.—This section shall not apply

11 to any constructive ownership transaction if all of

12 the positions which are part of such transaction are

13 marked to market under any provision of this title

14 or the regulations thereunder.

15 ‘‘(3) LONG POSITION UNDER NOTIONAL PRIN16 CIPAL CONTRACT.—A person shall be treated as

17 holding a long position under a notional principal

18 contract with respect to any financial asset if such

19 person—

20 ‘‘(A) has the right to be paid (or receive

21 credit for) all or substantially all of the invest22 ment yield (including appreciation) on such fi23 nancial asset for a specified period, and
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1 ‘‘(B) is obligated to reimburse (or provide

2 credit for) all or substantially all of any decline

3 in the value of such financial asset.

4 ‘‘(4) FORWARD CONTRACT.—The term ‘forward

5 contract’ means any contract to acquire in the fu6 ture (or provide or receive credit for the future value

7 of) any financial asset.

8 ‘‘(e) NET UNDERLYING LONG-TERM CAPITAL

9 GAIN.—For purposes of this section, in the case of any

10 constructive ownership transaction with respect to any fi11 nancial asset, the term ‘net underlying long-term capital

12 gain’ means the aggregate net capital gain that the tax13 payer would have had if—

14 ‘‘(1) the financial asset had been acquired for

15 fair market value on the date such transaction was

16 opened and sold for fair market value on the date

17 such transaction was closed, and

18 ‘‘(2) only gains and losses that would have re19 sulted from the deemed ownership under paragraph

20 (1) were taken into account.

21 The amount of the net underlying long-term capital gain

22 with respect to any financial asset shall be treated as zero

23 unless the amount thereof is established by clear and con24 vincing evidence.
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1 ‘‘(f) SPECIAL RULE WHERE TAXPAYER TAKES DE2 LIVERY.—Except as provided in regulations prescribed by

3 the Secretary, if a constructive ownership transaction is

4 closed by reason of taking delivery, this section shall be

5 applied as if the taxpayer had sold all the contracts, op6 tions, or other positions which are part of such transaction

7 for fair market value on the closing date. The amount of

8 gain recognized under the preceding sentence shall not ex9 ceed the amount of gain treated as short-term gain under

10 subsection (a). Proper adjustments shall be made in the

11 amount of any gain or loss subsequently realized for gain

12 recognized under this subsection.

13 ‘‘(g) REGULATIONS.—The Secretary shall prescribe

14 such regulations as may be necessary or appropriate to

15 carry out the purposes of this section, including regula16 tions permitting taxpayers to mark to market constructive

17 ownership transactions in lieu of applying this section.’’.

18 (b) CLERICAL AMENDMENT.—The table of sections

19 for part IV of subchapter P of chapter 1 of such Code

20 is amended by adding at the end the following new item:

‘‘Sec. 1260. Gains from constructive ownership transactions.’’.

21 (c) EFFECTIVE DATE.—The amendments made by

22 this section shall apply to gains recognized after the date

23 of the enactment of this Act; except that such amendments

24 shall not apply to transactions entered into before Feb-
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1 ruary 5, 1998, and not extended or substantially modified

2 on or after such date.

Æ