Late identification for integrating convertible notes with a hedge allowed under 9100 relief

Plain-English summary

Tax rules let a company combine ("integrate") a qualifying debt instrument with a hedge so the pair is taxed as if it were a single fixed-rate note, but only if the company records and identifies the integration in its books and records on or before the day it enters into the hedge. Here a company issued convertible notes and set up a convertible-note hedge (a "call spread": buying call options and selling warrants on its own stock) to synthetically raise the notes' conversion price. It intended to integrate the convertible notes with the call options under § 1.1275-6, but its advisers never told it about the same-day identification requirement, so the deadline passed unmet. After its accounting firm caught the omission, the company prepared the required documentation and asked for an extension under the § 301.9100-3 relief rules. The IRS granted an extension (running through the later date the documentation was prepared), finding the company acted reasonably and in good faith and that relief would not prejudice the government. The ruling covers only the timeliness of the identification; it does not decide whether the transaction actually qualifies for integration or whether the documentation is adequate.

Ruling snapshot

• Question: May a company get an extension of time to satisfy the § 1.1275-6 identification requirements for integrating its convertible notes with a hedge?
• Outcome: Approved (extension granted through the documentation date)
• Key authorities: Treas. Reg. § 1.1275-6; Treas. Reg. §§ 301.9100-1, 301.9100-3

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 202201010 Third Party Communication: None
Release Date: 1/7/2022 Date of Communication: Not Applicable
Index Number: 9100.00-00, 1275.08-00
Person To Contact:
------------------- -------------------------, ID No. -----------------
------------------------------------------------------------ Telephone Number:
--------- --------------------
-------------------------- Refer Reply To:
------------------------------- CC:FIP:B03
-------------------------------- PLR-111790-21
Date:
October 12, 2021

Legend

Taxpayer = ---------------------------

State = -------------

Date 1 = -----------------------

Date 2 = -----------------------

Date 3 = ------------------

Dear ------------:

   This letter is in response to a letter from your authorized representatives

requesting an extension of time under §§ 301.9100-1 and 301.9100-3 of the Procedure
and Administration Regulations for Taxpayer to satisfy § 1.1275-6(c)(1)(i) of the Income
Tax Regulations relating to the identification requirements of § 1.1275-6(e) for
integration of a qualifying debt instrument and a § 1.1275-6 hedge.

                                                 FACTS

   Taxpayer is incorporated in State and is the parent of an affiliated group of

corporations, which files a consolidated federal income tax return. For federal income
tax purposes, Taxpayer uses an accrual method as its overall method of accounting and
the year ending September 30 as its taxable year. On Date 2, Taxpayer issued
convertible notes ("Convertible Notes"). Under certain circumstances, the Convertible
PLR-111790-21 2

Notes are convertible, at the option of the holders of the Convertible Notes, into a
specified number of shares of stock of Taxpayer. As part of the same transaction,
Taxpayer purchased call options for the specified number of shares of its stock with a
strike price equal to the conversion price of the Convertible Notes ("Call Options") and
sold warrants for the specified number of shares of its stock with a strike price greater
than the strike price of the Call Options ("Warrants"). Taxpayer paid the premium for
the Call Options and received the proceeds from the sale of the Warrants on Date 2. To
implement the purchase of the Call Options and the sale of the Warrants, on Date 1,
Taxpayer executed separate confirmations with bank counterparties to purchase the
Call Options and sell the Warrants. Taxpayer sought to use the transaction to hedge
the conversion feature on the Convertible Notes by synthetically raising their conversion
price to the strike price under the Warrants. The issuance of the Convertible Notes, the
purchase of the Call Options, and the sale of the Warrants are hereinafter referred to as
the "Transaction."

    Taxpayer represents that it intended for the Convertible Notes and the Call

Options to be integrated transactions as defined in § 1.1275-6(c). Taxpayer retained
and relied upon professional advisors to assist with the Transaction. These advisors did
not inform Taxpayer of the requirement, set forth in § 1.1275-6(c)(1)(i), to satisfy the
identification requirements of § 1.1275-6(e) on or before the date the taxpayer enters
into the § 1.1275-6 hedge ("Identification Requirement"), and Taxpayer did not
otherwise become aware of the Identification Requirement on or before that date.
Consequently, Taxpayer failed to satisfy the Identification Requirement on or before the
due date.

    After the Transaction was completed, Taxpayer’s independent public accounting

firm ("Accounting Firm") reviewed the Transaction and discovered Taxpayer’s failure to
satisfy the Identification Requirement. The Accounting Firm informed Taxpayer of such
failure.

   On Date 3, Taxpayer prepared and retained, as part of its books and records,

documentation that it believes meets the requirements of § 1.1275-6(c)(1)(i) and (e)
("Recent ID Statement"). Treating satisfaction of the Identification Requirement as a
regulatory election, Taxpayer has requested an extension of time under §§ 301.9100-1
and 301.9100-3 to satisfy § 1.1275-6(c)(1)(i) and (e), using the Recent ID Statement.

                              REPRESENTATIONS

  Taxpayer makes the following representations:

1. Taxpayer requested relief before the failure to satisfy the Identification
   Requirement was discovered by the Internal Revenue Service.

2. Taxpayer is not seeking to alter a return position for which an accuracy-related
   penalty has been or could be imposed under section 6662 of the Internal
   Revenue Code (“Code”).
   PLR-111790-21 3

3. It is not the case that Taxpayer was informed in all material respects of the
   election and the related tax consequences, but nonetheless chose not to make
   the election.

4. Taxpayer is not using hindsight in requesting this relief. No specific facts have
   changed since the original due date for satisfying the Identification Requirement
   that makes integration under § 1.1275-6 advantageous.

5. The requested relief would not result in Taxpayer having a lower tax liability than
   it would have had if Taxpayer had satisfied the Identification Requirement in a
   timely manner.

6. The period of limitations on assessment under section 6501(a) has not expired
   for Taxpayer for the taxable year in which the Identification Requirement should
   have been satisfied, or for any taxable year(s) that would have been affected by
   the Identification Requirement had it been timely satisfied.

In addition, affidavits on behalf of Taxpayer have been provided as required by
§ 301.9100-3(e).

                               LAW AND ANALYSIS

   Section 1.1275-6 provides for integration of a qualifying debt instrument ("QDI")

with a § 1.1275-6 hedge or combination of § 1.1275-6 hedges if the combined cash
flows of the components are substantially equivalent to the cash flows on a
noncontingent debt instrument that pays interest at a fixed rate or qualified floating rate.
See § 1.1275-6(a).

    Section 1.1275-6(c)(1) provides generally that a QDI and a § 1.1275-6 hedge are

an integrated transaction if the requirements in § 1.1275-6(c)(1)(i) through (vii) are
satisfied. Section 1.1275-6(c)(1)(i) requires that the taxpayer satisfy the identification
requirements of § 1.1275-6(e) on or before the date the taxpayer enters into the
§ 1.1275-6 hedge. Section 1.1275-6(e) requires that for each integrated transaction, a
taxpayer must enter and retain as part of its books and records the following
information: (1) the date the QDI was issued or acquired (or is expected to be issued or
acquired) by the taxpayer and the date the § 1.1275-6 hedge was entered into by the
taxpayer; (2) a description of the QDI and the § 1.1275-6 hedge; and (3) a summary of
the cash flows and accruals resulting from treating the QDI and the § 1.1275-6 hedge
as an integrated transaction.

   Section 301.9100-1(c) provides, in part, that the Commissioner has discretion to

grant a reasonable extension of time to make a regulatory election, or a statutory
election (but no more than 6 months except in the case of a taxpayer who is abroad),
under all subtitles of the Code except subtitles E, G, H, and I. Section 301.9100-1(b)
provides, in part, that the term "election" includes an application for relief in respect of
PLR-111790-21 4

tax; a request to adopt, change, or retain an accounting method or accounting period;
but does not include an application for an extension of time for filing a return under
section 6081. Section 301.9100-1(b) also provides, in part, that the term "regulatory
election" means an election whose due date is prescribed by a regulation published in
the Federal Register, or by a revenue ruling, revenue procedure, notice, or
announcement published in the Internal Revenue Bulletin.

   Section 301.9100-3 sets forth rules that the Service will use to determine

whether, under the facts and circumstances of each situation, the Commissioner will
grant an extension of time for regulatory elections that do not meet the requirements of
§ 301.9100-2 for an automatic extension. In general, requests for relief subject to
§ 301.9100-3 will be granted when the taxpayer provides evidence (including any
required affidavits) to establish to the satisfaction of the Commissioner that the taxpayer
acted reasonably and in good faith, and the grant of relief will not prejudice the interests
of the Government.

      Section 301.9100-3(b)(1) provides that, subject to paragraphs (b)(3)(i) through

(iii) of § 301.9100-3, a taxpayer is deemed to have acted reasonably and in good faith if
the taxpayer (i) requests relief under this section before the failure to make the
regulatory election is discovered by the Service; (ii) failed to make the election because
of intervening events beyond the taxpayer’s control; (iii) failed to make the election
because, after exercising reasonable diligence (taking into account the taxpayer’s
experience and the complexity of the return or issue), the taxpayer was unaware of the
necessity for the election; (iv) reasonably relied on the written advice of the Service; or
(v) reasonably relied on a qualified tax professional, including a tax professional
employed by the taxpayer, and the tax professional failed to make, or advise the
taxpayer to make, the election.

    Section 301.9100-3(b)(3)(i) provides that a taxpayer is deemed to have not acted

reasonably and in good faith if the taxpayer seeks to alter a return position for which an
accuracy-related penalty has been or could be imposed under § 6662 at the time the
taxpayer requests relief and the new position requires or permits a regulatory election
for which relief is requested. Section 301.9100-3(b)(3)(ii) provides that a taxpayer is
deemed to have not acted reasonably and in good faith if the taxpayer was informed in
all material respects of the required election and related tax consequences but chose
not to file the election. Section 301.9100-3(b)(3)(iii) provides that a taxpayer is deemed
to have not acted reasonably and in good faith if the taxpayer uses hindsight in
requesting relief. If specific facts have changed since the due date for making the
election that make the election advantageous to the taxpayer, the Service will not
ordinarily grant relief. In such a case, the Service will grant relief only when the
taxpayer provides strong proof that the taxpayer's decision to seek relief did not involve
hindsight.

   Section 301.9100-3(c)(1) provides that the interests of the Government are

prejudiced if either granting relief would result in the taxpayer having a lower tax liability
in the aggregate for all years to which the regulatory election applies than the taxpayer
PLR-111790-21 5

would have had if the election had been timely made (taking into account the time value
of money) or the taxable year in which a timely regulatory election should have been
made is closed.

                                   CONCLUSIONS

   Based on the information submitted and representations made, we conclude that

Taxpayer has satisfied the requirements for granting a reasonable extension of time,
through Date 3, under §§ 301.9100-1 and 301.9100-3 to satisfy the requirements of
§ 1.1275-6(c)(1)(i) relating to the identification requirements of § 1.1275-6(e) for
integration of the Convertible Notes and Call Options.

                                      CAVEATS

    This ruling is limited to the timeliness of satisfying the requirements of § 1.1275-

6(c)(1)(i) relating to the identification requirements of § 1.1275-6(e) in order to treat the
Convertible Notes and Call Options as integrated transactions. This ruling's application
is limited to the facts, representations, Code sections, and regulations cited herein.
Except as expressly provided herein, no opinion is expressed or implied concerning the
tax consequences of any aspect of any transaction or item discussed or referenced in
this letter. In particular, no opinion is expressed or implied concerning the integration of
the Convertible Notes and the Call Options, including but not limited to: (1) whether the
Recent ID Statement is adequate for the purposes of § 1.1275-6(e); (2) whether the Call
Options are § 1.1275-6 hedges as described in § 1.1275-6(b)(2); or (3) whether the
requirements of § 1.1275-6(c)(1)(ii) through (vii) are met.

   Moreover, no opinion is expressed with regard to whether the tax liability of

Taxpayer is not lower in the aggregate for all years to which the regulatory election
applies than such tax liability would have been if the election had been timely made
(taking into account the time value of money). Upon audit of the federal income tax
returns involved, the director's office will determine such tax liability for the years
involved. If the director's office determines that such tax liability is lower, that office will
determine the federal income tax effect.

   The ruling contained in this letter is based upon information and representations

submitted by Taxpayer and accompanied by a penalty of perjury statement executed by
an appropriate party. Because this office has not verified any of the material submitted
in support of the request for rulings, such material is subject to verification on
examination.

   This ruling is directed only to Taxpayer. Section 6110(k)(3) provides that it may

not be used or cited as precedent.
PLR-111790-21 6

     In accordance with the Power of Attorney on file with this office, a copy of this

letter is being sent to your authorized representatives.

                                   Sincerely,



                                   ___________________________
                                   Charles W. Culmer
                                   Senior Technician Reviewer, Branch 3
                                   Office of the Associate Chief Counsel
                                   (Financial Institutions & Products)

Enclosure (1):
Copy for section 6110 purposes

cc: