CCA 201212014: IRS advises that an identified currency hedge is outside section 263(g) capitalization

Plain-English summary

The Office of Chief Counsel considered whether section 263(g) required a taxpayer to capitalize otherwise deductible payments or accruals on indebtedness identified as the item hedged by a derivative. The advice explains that section 263(g) generally denies deductions for certain interest and carrying charges connected with straddles, but excludes qualifying hedging transactions under section 1256(e). Because the derivative managed currency fluctuations relating to the taxpayer's indebtedness and was identified as a hedge, the payments or accruals described in section 263(g)(2) were not subject to section 263(g)(1).

Ruling snapshot

• Question: Does section 263(g) require capitalization of payments or accruals on indebtedness identified as the item hedged by a derivative?
• Outcome: Advice given.
• Key authorities: IRC §§ 263(g), 1092(c), 1221(b)(2)(A), and 1256(e); 26 U.S.C. § 6110(k)(3)

Full text (IRS public release)

ID: CCA-122032-11 Number: 201212014
Release Date: 3/23/2012
Office: ------------
UILC: 263.21-00

From: ---------------------- -------------------------------------------------------------------- Sent: Tuesday, December 20, 2011 3:23 PM To: ----------------- --------------------------------------------------------------------------------------------------------- Cc: Subject: --------------------------

This Chief Counsel Advice responds to your request for assistance. This advice may not be used or cited as precedent.

Issue

Whether § 263(g) requires the capitalization of Taxpayer's otherwise deductible payments or accruals (including interest and original issue discount) on its issued Indebtedness if Taxpayer has identified the Indebtedness as the item being hedged by Taxpayer's Derivative?

Law

Section 263(g)(1) provides that no deduction is allowed for interest and carrying charges properly allocable to personal property which is part of a straddle within the meaning of § 1092(c). Any amount disallowed under § 263(g)(1) is capitalized.

Section 263(g)(2) defines interest and carrying charges to mean interest on indebtedness incurred or continued to purchase or carry the personal property and certain other amounts paid or incurred to carry the personal property net of certain receipts with respect to the personal property.

Section 263(g)(3) carves out from the scope of § 263(g) any hedging transaction defined in § 1256(e).

Section 1256(e)(2) generally defines a hedging transaction as any hedging transaction (as defined in § 1221(b)(2)(A)), provided the taxpayer clearly identifies such transaction as being a hedging transaction before the close of the day on which such transaction was entered into (or such earlier time as the Secretary prescribes in regulations).

Section 1221(b)(2)(A) defines a hedging transaction as a transaction entered into by the taxpayer in the normal course of business primarily to manage risk of interest rate, price changes, or currency fluctuations with respect to ordinary property, ordinary obligations, or borrowings of the taxpayer.

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Conclusion

Because Taxpayer’s Derivative manages currency fluctuations with respect to Taxpayer’s Indebtedness, and was identified as a hedge of Taxpayer’s Indebtedness, Taxpayer's payments or accruals, as described in § 263(g)(2), are not subject to section 263(g)(1).