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Tax Provisions Enacted in Year-End Appropriations Legislation
Washington, DC, December 22, 2000 - The Consolidated Appropriations Act for FY 2001, H.R. 4577 (the 2001 Appropriations Act), which was signed into law by President Clinton on December 21, 2000, includes several provisions concerning regulated investment companies and their shareholders. Some of the provisions are contained in the Community Renewal Tax Relief Act of 2000, H.R. 5662 (the Community Renewal TRA), which was enacted as part of the 2001 Appropriations Act.
Taxation of Securities Futures Contracts
(New Internal Revenue Code Section 1234B)
The Commodity Futures Modernization Act of 2000, H.R. 5560 (the Commodity Futures Modernization Act), which also was enacted as part of the 2001 Appropriations Act, permits the creation of a new type of securities futures contract. A "security future" generally is defined in new section 3(a)(55)(A) of the Securities Exchange Act of 1934, as a contract of sale for future delivery of a single security or a narrow-based security index.
A "narrow-based security index" generally is defined in new section 3(a)(55)(B) of the 1934 Act as an index:
- that has nine or fewer component securities;
- in which a component security comprises more than 30 percent of the index’s weighting;
- in which the five highest weighted component securities in the aggregate comprise more than 60 percent of the index’s weighting; or
- in which the lowest weighted component securities comprising an aggregate of 25 percent of the index’s weighting have less than specified aggregate dollar values of average daily trading volume.
Pursuant to new section 3(a)(55)(C) of the 1934 Act, however, an index will not be a narrow-based security index if any one of six conditions is met. Under one such condition, an index will not be narrow-based if a futures contract on the index is traded on, or subject to the rules of, an exchange and the contract meets the requirements jointly established by the Securities and Exchange Commission and the Commodity Futures Trading Commission (CFTC).
Trading in these new securities futures generally cannot begin, pursuant to the Commodity Futures Modernization Act, until after the exchanges have developed appropriate rules and, in no event, earlier than December 21, 2001 (one year after the date the 2001 Appropriations Act was enacted). Certain trading between principals may occur, if conditions set forth in the Act are met, beginning eight months after the date of enactment.
The Institute submitted testimony concerning other aspects of commodities futures modernization in July 2000.
Narrowed Definition of Equity Options under Section 1256(g)
The Community Renewal TRA, in conjunction with the Commodity Futures Modernization Act, also effectively modifies the tax treatment of certain equity index options that previously were not treated as broad-based—and, therefore, were not taxed as section 1256 contracts—under prior law, but that are broad-based in light of the new definition of a narrow-based security index. (Under prior law, an index was treated as broad-based if the CFTC was authorized to permit futures trading with respect to the index.) The effect of this change is to treat options on these equity indexes as section 1256 contracts—beginning on December 21, 2000.
Qualified Five-year Gains
The Community Renewal TRA includes a technical correction to the qualified five-year gain rules enacted in 1997 legislation. Under these rules, the capital gains tax rate applicable to taxpayers in the 15-percent tax bracket will be reduced from 10 percent to 8 percent for assets held for more than five years and sold after December 31, 2000. For taxpayers in higher tax brackets, the capital gains tax rate will be reduced from 20 percent to 18 percent for assets acquired after December 31, 2000 (or marked to market at the beginning of 2001) and held for more than five years.
Under the 1997 Act, a taxpayer holding an asset (defined to include any single lot of a security) acquired prior to 2001 may elect to mark the asset to market as of the beginning of 2001 and include any mark-to-market gain in income for the taxable year that includes January 1, 2001. This election permits the taxpayer to treat the asset as acquired after 2000 so that it will qualify for the 18 percent tax rate if it is held for more than an additional five years.