Should the Tax Law Require Current Accrual of Interest On Derivative Financial Instruments?
University of Chicago Law School, John M. Olin Law & Economics Working Paper No. 90
37 Pages Posted: 10 Dec 1999
Date Written: December 1999
This paper considers whether the original issue discount rules, which require current taxation of interest income regardless of whether it is paid, should be expanded to cover derivative financial instruments. The original issue discount rules were recently expanded to debt instruments with contingent payments (so-called "structured notes"), and commentators have advocated using similar principles to expand the rules to other derivatives. The paper argues that the original issue discount rules should not be expanded beyond their current scope. The current accrual requirement is inconsistent with the realization requirement, and expansion of the current accrual requirement merely moves the place where the rules are inconsistent. Expansion of the original issue discount rules cannot eliminate or even reduce the inconsistency in the law. Using a theory of the most efficient place to draw lines between inconsistent tax rules, the paper argues that current law is superior to an expansion of the original issue discount rules.
JEL Classification: G13, G18, H21, K22
Suggested Citation: Suggested Citation