Page 2 - Acquisitions, Dispositions & Structuring Techniques Corner
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ACQUISITIONS, DISPOSITIONS & STRUCTURING TECHNIQUES CORNER
 e Tax Court held, per the opinion issued by Judge Ruwe, that the taxpayer’s execution of extensions to the VPFCs did not constitute sales or exchanges of “property,” and therefore no realization events occurred, resulting in de ciencies in income tax for the year in which the exten- sions occurred.  e taxpayer was entitled to continue to treat the VPFCs under the “open transaction doctrine” and that the realization events with respect to the shares would not occur until the settlement dates occurred.  e court noted that the case was one of “ rst impression.”
 e Tax Court’s decision in McKelvey Est. con rms that a properly structured VPFC, including one whose term is later extended, can be treated as a non-realization event reportable under an open transaction approach until the shares are actually settled or deemed sold under Code Sec. 1259 or related provisions.3
Forward Contract,
Variable Forward Contract
and Open Transaction Treatment
A standard forward contract is an executory contract in which a forward buyer agrees to purchase from a forward seller a  xed quantity of property at a  xed price, with both payment and delivery occurring on a speci ed future date.  e VPFC is a form of standard forward contract. Gener- ally, the securities owner or forward seller of appreciated securities enters into a VPFC to sell a variable number of shares of that equity position.  e VPFC requires the forward buyer, generally a commercial bank or  nancial institution, to prepay its obligation to purchase a variable number of shares on a future date.  erefore, on the date of closing, the forward seller receives funds as a prepayment for the contract that is scheduled to close on a speci c date. Generally, the prepayment amount is discounted to a present value based on an established discount rate.  e standard forward contract generally requires the seller to receive the negotiated price on the date of contract matu- rity.  e realization event for federal income tax purposes is deferred and, therefore, the forward seller may treat its receipt of proceeds as non-taxable until the maturity date of the contract or if earlier, upon partial settlement dates that occur prior to the end of the contract period.
A forward seller, therefore, who is in receipt of payment in advance may use the proceeds for any purpose including purchasing other shares of stock or  nancial instruments to diversity a position in the shares that are the subject of the VPFC. In exchange for the cash prepayment, the forward seller is contractually obligated to deliver to the forward buyer: (1) shares of stock that have been pledged
as collateral at the inception of the contract; (2) identical shares of the stock that have not been pledged as collateral; or (3) an equivalent cash amount.  e actual number of shares (or cash equivalent) to be delivered by the forward seller is determined by a formula that takes into account changes in the market price of the underlying stock over the duration of the contract. Typically, the number of shares or the amount of cash to be delivered at maturity is determined at or near the contract maturity date according to the market price of the stock at issue4:
Example. T owns 10,000 shares of X Corp. com- mon stock, whose shares are publicly traded. T has a cost basis in the shares of $70 per share.  e present share price is $100 per share. T enters into a VPFC with bank to deliver 10,000 shares of X Corp. com- mon stock in three years and receives a $1,000,000 payment at closing. If the X Corp. common stock is trading at $100 per share or less on the maturity date, T must deliver to the bank all 10,000 shares. If, for example, the X Corp. common stock is trading at $200 at such time, T is only obligated to deliver 5,000 shares or $500,000 in cash.
Realization Event Requirement
Code Sec. 61(a)(3) provides that gross income includes gains from dealings in property. Code Sec. 1001(c) provides that a taxpayer is required to recognize gain or loss from a disposition of property unless a speci c non-recognition rule applies. Code Sec. 1001 provides that gain from the sale or other disposition of property shall be determined based on the excess of the amount realized from the disposition less the adjusted basis of the property determined under Code Sec. 1011. Loss is the excess of the adjusted basis for determining loss in ac- cordance with Code Sec. 1001 over the amount realized.5 Any “disposition” is su cient to constitute a realization event, including an abandonment.6 In determining the “amount realized,” the Supreme Court held in J.F. Tufts7 that non-recourse debt canceled in a transaction is an amount realized.8
 e classic prescription of whether a transaction con- stitutes a sale or other disposition for federal income tax purposes is based on whether the taxpayer transfers the burdens and bene ts of ownership to the purchaser. All relevant facts and circumstances are considered including objective evidence of the parties’ intention re ected in their overt acts.9
In determining whether a transaction constitutes a sale, exchange or other disposition, the Tax Court’s list
8 JOURNAL OF PASSTHROUGH ENTITIES
SEPTEMBER–OCTOBER 2017


































































































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