Miller v. C.I.R.
| Decision Date | 11 January 1988 |
| Docket Number | Nos. 85-2766,86-1024 and 86-1025,s. 85-2766 |
| Citation | 836 F.2d 1274 |
| Parties | -713, 56 USLW 2403, 88-1 USTC P 9139 Gilbert R. MILLER and Rita Miller, Petitioners-Appellees, v. COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellant. James B. KURTZ and Katherine Kurtz, Petitioners-Appellees, v. COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellant. W.C. KURTZ, Jr. and Alma Mae Kurtz, Petitioners-Appellees, v. COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellant, Dorchester Partners, Edward O. Thorp and Vivian S. Thorp; I.C. Hemmings; Chicago Board of Trade and Chicago Mercantile Exchange, Amici Curiae. |
| Court | U.S. Court of Appeals — Tenth Circuit |
Kenneth L. Greene, Atty., Tax Div., Dept. of Justice (Roger M. Olsen, Acting Asst. Atty. Gen. and Michael L. Paup, Atty., Tax Div., Dept. of Justice with him on the briefs), Washington, D.C., for respondent-appellant.
William S. Huff (Charles A. Ramunno, Bruce N. Lemmons and Dan A. Sciullo with him on the briefs), Holme Roberts & Owen, Denver, Colo., for petitioners-appellees.
William F. Nelson, William S. McKee and Peter G. Genz, King & Spalding, Atlanta, Ga., and David W. Mills, Lowenstein, Sandler, Brochin, Kohl, Fisher, Boylan & Meanor, Roseland, N.J., filed an amicus curiae brief on behalf of Dorchester Partners, Edward O. Thorp and Vivian S. Thorp.
David D. Aughtry, Shelley Cashion, David E. Hammer, Chamberlain, Hrdlicka, White, Johnson & Williams, Houston, Tex., filed an amicus curiae brief on behalf of I.C. Hemmings.
Frederic W. Hickman, Peter B. Freeman, Bradford L. Ferguson and Michael A. Clark, Hopkins & Sutter, Chicago, Ill., filed an amicus brief on behalf of the Chicago Bd. of Trade and Chicago Mercantile Exchange.
Before, HOLLOWAY, Chief Judge, and SEYMOUR and BALDOCK, Circuit Judges.
These consolidated cases arise from two decisions of the tax court allowing certain straddle losses to be deducted in computing taxpayers' federal income tax liability. The losses in question were incurred as a result of commodity futures trading. The lead case, Miller v. Comm'r, 84 T.C. 827 (1985), resulted in a reviewed decision in which the tax court ruled, by a ten to eight majority, that the losses were deductible. The other case, Kurtz v. Comm'r, 50 T.C.M. (CCH) 695 (1985), resulted in a decision in favor of the taxpayers on the authority of Miller. Because we disagree with the tax court's interpretation of the relevant statutory provision in Miller, we conclude that the losses incurred by all taxpayers are not deductible and we reverse.
A futures contract is an agreement to sell or purchase a specified quantity and grade of a designated commodity during a designated month in the future. Each such contract is called a "position." A position is "long" if the contract requires the holder to purchase the designated commodity. A position is "short" if a contract requires the holder to sell a designated commodity. When only one position is held it is called either an "open contract" or an "open position." A "straddle" involves the holding of both a long position in a commodity requiring delivery in one month and a short position in the same commodity requiring delivery in a different future month. Each position in a straddle is known as a "leg." A leg of a straddle usually will be closed out by acquiring an offsetting position.
When an open position is held, price changes in the commodity futures directly affect the economic status of the holder. But when a straddle is held, the holder is both a purchaser and seller of the same commodity. As the price of the underlying commodity changes, the prices of the legs move in opposite directions. The difference between the price of the each leg is called the "spread." In a straddle, the holder is concerned primarily with the spread. If the spread widens or narrows, a gain or a loss will be incurred; if the spread remains constant, no gain or loss would be incurred, but any price change in the commodity futures would produce an unrealized gain in one leg of the straddle and an offsetting unrealized loss in the other. Because each leg of a straddle requires delivery of a commodity at a different time, the price changes in each leg of the straddle will not be identical, but they will be related; the price of each leg will be affected by similar economic conditions and the loss on one position normally will be offset significantly by the gain on the other position.
Acquiring a commodity straddle carries with it less risk than acquiring an open position because the spread will be less volatile than the price of either leg. Consequently, the expected return is less than that of an open position, and margin requirements for a straddle are somewhat lower than those for open positions. Before June, 1981, 1 commodity straddles were perceived as a tax planning device enabling a taxpayer to defer tax liability on an unrelated capital gain until a later year and to convert short-term capital gain into long-term capital gain. With this strategy, a taxpayer would close out the loss leg of the straddle in Year 1 so as to realize a tax loss. Simultaneously, and while retaining the gain leg, the taxpayer would acquire an offsetting position to replace the closed loss leg. The new position would be similar to the closed leg, but with delivery in a different month. This substitution of one position for a similar position in a different month is known as a "switch." The spread, created by the switch coupled with the retained gain position, would maintain the taxpayer's "hedged" position, which would be held into Year 2. A typical straddle traded for tax purposes will include a switch (and thus is distinguishable), while a typical straddle traded for nontax purposes will not include a switch. Optimally, this hedged profit position would be held for more than six months and closed out in Year 2 so as to realize long-term capital gain. 2
The parties stipulated to facts concerning their trading in commodity tax straddles and the tax court has set forth its findings concerning the surrounding circumstances, with which we agree, Miller, 84 T.C. at 828-34, 848-49 and Kurtz, 50 T.C.M. (CCH) at 695-99, 704-08, so we only summarize these facts. Taxpayer Miller is an experienced trader of commodity futures. He acquired the first gold futures contracts involved here in October, 1979. By a series of switches in December, 1979, Miller generated $103,325 in short-term capital losses, which were reported on his 1979 tax return. In March, 1980, Miller generated an additional loss of $80,207.50. In April, 1980, Miller closed out all of his positions, resulting in a gain of $157,905. Thus, overall Miller sustained a net economic loss of $25,627.50, which consisted of $3,447.50 in commissions and $22,180.00 in trading losses. These 1980 futures transactions resulted in a long-term capital gain of $77,697.50 in the 1980 tax year.
Taxpayer James B. Kurtz (JBK) began trading in gold and silver futures contracts in November, 1978. By a series of switches, JBK claimed a short-term capital loss from straddle transactions of $951,555 on his 1978 return. In February, 1979, JBK generated a gain on his straddle transactions of $349,960, and, in May, 1979, JBK closed out all remaining positions with a gain of $509,960. Thus, overall JBK sustained a net economic loss of $91,635, which consisted of $41,185 in commissions and $50,450 in trading losses. These 1979 futures transactions then resulted in a long-term capital gain of $859,920 in the 1979 tax year.
Taxpayer W.C. Kurtz, Jr. (WCK) also began trading in gold and silver futures contracts in November, 1978. By a series of switches, WCK claimed a short-term capital loss from straddle transactions of $936,005 on his 1978 return. In February, 1979, WCK generated a gain on his straddle transactions of $353,860 and, in May, 1979, WCK closed out all remaining positions with a gain of $491,610. Thus, overall WCK sustained a net economic loss of $90,535, which consisted of $48,785 in commissions and $41,750 in trading losses. These 1979 futures transactions resulted in a long-term capital gain of $845,470 in the 1979 tax year.
In each of these cases, the trading patterns alone are indicative of tax-avoidance. The additional record evidence only confirms that tax-avoidance was the dominant, if not the only, purpose for these transactions. The parties have not contested the factual determinations of the tax court, so the primary issue before us is one of law. We review the legal conclusions of the tax court de novo. Casper v. Comm'r, 805 F.2d 902, 904 (10th Cir.1986). The issue in these cases is whether the taxpayers' 1978 and 1979 straddle losses are deductible as short-term capital losses pursuant to Sec. 108 of the Tax Reform Act of 1984. 3 The Commissioner disallowed these losses, claiming that the straddle transactions which generated the losses had not been undertaken for the primary purpose of realizing a profit. Taxpayers filed for a redetermination in the tax court. The tax court found that the primary motive for the taxpayers' transactions was to realize short-term capital losses in one year and then to realize long-term capital gains in approximately the same amount in the next year. 4 Obviously the advantage of such a strategy is tax deferral and minimization. The tax court further found that an incidental motive of the taxpayers was attaining profit. 5
In the past, the tax court has disallowed tax straddle losses not connected with a trade or business because such losses are not "incurred in any transaction entered into for profit" as required by I.R.C. Sec. 165(c)(2). 6 Smith v. Comm'r, 78 T.C. 350, 390-91 (1982); see also Fox v. Comm'r, 82 T.C. 1001, 1018-27 (1984). The language of Sec. 165(c)(2) frequently has been invoked by the Commissioner to disallow losses incurred from transactions not motivated by profit. The concept of a loss "incurred in any...
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