As a result of the Dodd-Frank Act, dealers and clearinghouses may be required to assign or otherwise transfer large numbers of derivatives contracts. For example, some dealers who are U.S. banks are expected to move their derivatives businesses to affiliated entities to comply with provisions of the Dodd-Frank Act that prohibit U.S. banks from entering into certain types of derivatives transactions.
Many such derivatives contracts provide that the non-assigning counterparty needs to consent to any assignment or similar transfer. On July 21, 2011, the IRS issued temporary Treasury Regulation § 1.1001-4 under Section 1001 of the Internal Revenue Code (the “Temporary Regulations”) generally providing that the assignment or other transfer of a covered derivative contract among dealers or clearinghouses will not result in a tax realization event for the non-assigning counterparty (e.g., a fund that has entered into a derivative contract with a dealer), even if the non-assigning counterparty is required to consent to the assignment.
Moreover, the Temporary Regulations expand the previous version of this rule to cover derivatives beyond “notional principal contracts” (generally, swaps), to also include, among other derivative positions, options and forwards. The Temporary Regulations currently appear to exclude commodities swaps from their reach, even though they were expressly covered by the prior rule. We understand that this exclusion was inadvertent and will be the subject of a future technical correction.
The Temporary Regulations became effective on July 22, 2011 and can be found here.