Revenue Ruling 82-54: Disallowing Commodity Losses

An Internal Revenue Service (IRS) Revenue Ruling is an official interpretation of tax law based on a particular set of facts, serving as guidance for taxpayers and IRS personnel. This article examines Revenue Ruling 77-185, which addresses the tax treatment of losses from a specific type of commodity futures transaction.

Commodity Straddle Transaction Details

The transaction analyzed in the ruling involved a commodity tax straddle. The taxpayer simultaneously purchased and sold silver futures contracts for identical quantities of silver but with different delivery months, creating a “straddle” position. This structure is designed so that a change in the market price of silver causes one position, or “leg,” to increase in value while the other leg decreases by a nearly identical amount.

Toward the end of the first year, the taxpayer closed out the leg of the straddle that had a loss, thereby realizing a short-term capital loss. Almost immediately, the taxpayer re-established the straddle by purchasing a new futures contract with a different delivery month. This new position was structured to offset the unrealized gain in the remaining original leg of the transaction.

Shortly into the new year, the taxpayer closed out both remaining positions. This action resulted in a capital gain that was economically similar to the loss claimed in the prior year. The structure of these transactions was designed to create a tax loss in the first year while deferring the corresponding gain into the subsequent tax year.

Basis for Disallowing the Loss

In Revenue Ruling 77-185, the IRS disallowed the short-term capital loss claimed by the taxpayer. The agency’s reasoning was that for a loss to be deductible, it must result from a transaction entered into for profit. The IRS concluded the taxpayer’s straddle transaction lacked a genuine economic profit motive and was designed solely to defer tax liability. Because the taxpayer’s market position remained insulated from significant risk, the claimed loss did not represent a true economic detriment.

Congress later enacted specific legislation to address these tax-deferral strategies. The Economic Recovery Tax Act of 1981 added Section 1092 to the Internal Revenue Code, which created a “loss-deferral rule” for straddles. Under this rule, a taxpayer generally cannot deduct a loss on one position of a straddle to the extent that they have an unrecognized gain in the offsetting position. This statutory provision now serves as the primary rule governing such transactions.