A Modest Proposal Regarding Debt-Like Preferred Stock
Anthony P. Polito
Suffolk University Law School
Virginia Tax Review, Vol. 20, p. 291, 2000
Several provisions of the Internal Revenue Code act, in targeted circumstances, treat limited classes of preferred stock as not being stock. These provisions have in common that they target preferred stock that is thought to be very debt-like. This Article applies two important insights from finance theory to the interpretation and administration of these provisions. The first is that the ability to create synthetic positions to reproduce any desired combination of debt and equity positions makes the distinction between debt and equity an artificial one, and therefore an exercise in line-drawing. The second finance insight is the fundamental risk-and-return relationship exemplified by the Capital Assets Pricing Model. The application of these insights leads to a proposal explicitly to interpret the provisions in terms of risk and return relationships, to the extent that the statutory language will permit it. The result is to replace an open-ended facts and circumstances test with a closed risk-and-return test that would bring beneficial simplification and certainty to this area of tax law.
Number of Pages in PDF File: 26
Date posted: March 7, 2007
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