The Treasury Department and IRS have just published proposed Regulations that would identify transactions resembling certain basket contract transactions as listed transactions per the meaning of Section 6011, making them reportable transactions. A “listed transaction” is a transaction that is the same as or substantially similar to one of the types of transactions that the IRS has determined to be a tax avoidance transaction and identified by notice, regulation, or other form of published guidance as a listed transaction.

Section 1.6011-4(c)(4) provides that a transaction is “substantially similar” if it is expected to obtain the same or similar types of tax consequences and is either factually similar or based on the same or similar tax strategy. Material advisors as well as participants in such listed transactions would be required to file disclosures with the IRS and face penalties for failure to disclose. Therefore, the safest course is usually to err on the side of caution and disclose any transaction that might be “substantially similar.”

Basket trading groups assets together, and a basket contract transaction takes place where a taxpayer receives returns based on the performance of the grouped asset, or basket. These can attempt to mask recognizing internal gains of transactions within the basket, so to speak, so that some gains within the basket that are taxable at the time of the transaction are not taxed and can, in practice, be deferred by virtue of the basket. This can be by a variety of reasons, such as long term versus short term capital gain, interest income, dividends, and other conversions or mischaracterizations that become murky when held as a basket.

Basket transactions first met disapproval by the Treasury Department and IRS in 2015, when Notice 2015-73 and 2015-74 identified certain types as listed transactions as well as transactions of interest.

The IRS may challenge the taxpayer’s position taken as part of these transactions under judicial doctrines, such as substance over form, or under provisions of the Internal Revenue Code, including whether the taxpayer’s method of accounting is permissible under IRC 446, and whether a 481(a) adjustment may be warranted.  In addition, the IRS can challenge claimed taxes and assert failures to comply with reporting obligations associated with these investments.

The IRS has stated that typical taxpayers involved with these transactions include high net-worth individuals and those working with hedge funds. For these individuals, it is already imperative to have separate, informed tax counsel and advice. Listed transactions necessarily draw the scrutiny of the IRS upon a taxpayer’s financial activity and compliance history, and for any participant, it is crucial to be prepared to defend a transaction or characterization of income or otherwise respond if questioned or audited by the IRS.

A public hearing on the topic will be held September 26, 2024.

For current IRS Listed Transactions, click here.
Read the proposed Regulation here.

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