Currency Option Not a Contract in "Major/minor" Shelter
The Tax Court held that a foreign currency call option is not a foreign currency contract under the plain language of the IRC [section] 1256 contract mark-to-market rules. Thus an unrealized loss existing on the date that a foreign currency option was transferred to a charity was disallowed. Section 1256 requires any foreign currency contract held by a taxpayer at the end of the taxpayer's tax year or terminated or transferred during it to be marked to market. A foreign currency contract is defined (section 1256(g)(2)(A)) as a contract that (1) involves a foreign currency that is traded through regulated futures contracts, (2) requires the settlement of the contract based on the currency's value or the delivery of the foreign currency, (3) is traded in the interbank market and (4) is entered into at a price determined by the interbank market. Mark Summitt was a 10% shareholder m Summitt Inc., a California S corporation. In 2002, Summitt Inc. engaged Multi National Strategies of New York City to advise it concerning the following transactions: Summitt Inc. purchased from Beckenham Trading Co. in New Jersey a 180-day call option to purchase euros from Beckenham and a 180-day put option to sell euros to Beckenham. The notional values of the options were identical, as were their strike prices, so the two options exactly offset each other. On the same date, Beckenham purchased from Summitt Inc. a pair of similarly reciprocal 180-day put and call options involving the Danish krone. Summitt and Beckenham each paid the other nearly $20 million in premiums, with a net payment by Summitt of $17,500. Two days later, Summitt Inc. assigned its positions in the two call options to a charity. On that date the euro call option position had an unrealized loss of $1,750,535, and the krone call option position had an unrealized gain of $1,745,285. Before the end of 2002, Summitt Inc. and Beckenham closed their put options by offsetting them against each other. The taxpayers took the position that because the euro is a "major" currency traded on the interbank market, its options are section 1256 contracts that must be marked to market (allowing them to recognize a loss), and because the krone is a "minor" currency its options are not section 1256 contracts and are not marked to market (enabling them to avoid recognizing a gain). The court noted that the two currencies' values "historically have demonstrated a very high positive correlation with each other." In Notice 2003-81, the Service described a similar transaction and designated it and those substantially similar as listed transactions under Treas. Reg. [section][section] 1.6011-4(b)(2), 301.6111-2(b)(2) and 301.6112-1(b)(2). The IRS further described it in Coordinated Issue Paper UIL 9300.31-00, issued in 2005, as a promoted tax shelter. …