The funds treated any profit on options held for more than a year as long-term capital gains, which are taxed at a lower rate than the short-term capital gains that would have been generated by owning the portfolio directly.
Deutsche Bank sold such options to at least 13 hedge funds during the late 1990s and early 2000s, including GWA and Renaissance, according to the Senate report. It’s unclear how many of these funds were audited by the IRS. Weiss’s case appears to be the first dispute involving the options to proceed to court.
Deutsche Bank stopped selling basket options that offered a tax benefit after the IRS declared in a 2010 memo that it considered them abusive. Barclays stopped in 2013.
Business Purpose
Weiss founded one of the country’s first market-neutral hedge funds and is known for trading utility stocks. His GWA owns Weiss Multi-Strategy Advisers, which manages $2.7 billion.
In the Tax Court case, Weiss argues that the options had business purposes beyond tax savings: They offered more leverage than was available in a typical brokerage arrangement, while at the same time limiting the firm’s risk of loss.
“The Tax Court will have to parse through these arguments and determine whether these option contracts have sufficient economic significance to be respected for federal tax purposes, or whether they should be disregarded as abusive transactions,” the law firm Mayer Brown LLP wrote in a note to clients last month. Renaissance has made similar arguments in defense of its transactions.
Weiss is represented by a team from Morgan Lewis & Bockius LLP that includes Dillon and William F. Nelson, a former IRS chief counsel. Dillon and Nelson have long served as tax counsel to the Trump Organization, the president’s real estate business.
--With assistance from Miles Weiss and Katia Porzecanski.
This article was provided by Bloomberg News.