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Author: zman49 Big red star, 1000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 121317  
Subject: Re: Straddles rule on covered calls Date: 5/3/2000 10:59 PM
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weiqi,

Greetings again. I have made an attempt to clarify some of the issues associated with covered calls in the mssage at

http://boards.fool.com/Message.asp?id=1380046000355000&sort=collapsed

For the most part I avoided straddles because of the complexity and unanswered questions. In addressing these questions I will use an asterisk (*) to indicate that I hope I have answered the question in the message cited above.

If I wrote covered calls [1 for 1] of short term LISTED options, above the lowest qualifying benchmark [LQB] as defined in the IRS document.

First questions is, does it matter if the options are less than 30 days? What are the remifications?


If expiration is less than 30 days from the date you sold the options you will have established a straddle.

Then

1) If they expired worthless, Do I report short term cap gains on them?


Yes, but if they are part of a straddle you do it on form 6781.

2) If I bought them back at loss, Do I report short term cap Loss?

Yes, unless you had held the stock for over a year, in which case it would be a long-term capital loss. Again, if they are part of a straddle you do it on form 6781.

If I bought them back at gain, Do I report short term cap gain?

Yes. Once again, if they are part of a straddle you do it on form 6781.

3) If the short call options got exercised, the gain/loss on the stock would need to include the premium collect first?

Yes.

and is the long/short cap gain of the stock based on the exercise date from the original stock purchase date?

Yes, unless the holding period was adjusted. If you sold an in-the-money qualified coverd call the holding period would be suspended for the time you were short the call. If the stock was part of a straddle (excluding qualified covered calls) and you entered the straddle before you had owned the stock for a year, the holding period of the stock would be changed to start the day the straddle ended.

For case (1) and (2) above, what of the short/long term treatment of the stock [which are not exercised]? Is it to wait till one sold out the stock and the short/long term issue decided based on the original purchase date and price of the stock?

See the message on tax issues for covered calls.*

======
What are the treatments if one sold the call options more than 1 for 1, ie ratioed calls to the stock, Is the treatment of the extra call treated as naked call options and we go to Table 4-1?

My guess is "yes" but it is only a guess. The IRS has not issued any kind of clarification on this issue and will not answer the question if you ask them.

====
One key question I am trying to find answers to is:
Is it possible to write out-the-money covered calls and realize short term gain/loss on the short calls, yet somehow preserve the potential of having long term gain [hopefully not loss] on the stock?


Yes.*

If so, how does one achieve the buying/selling?

Until you have held the stock for over one year make sure all the calls you sell have a strike price above the "Applicable Stock Price" and have more than 30 days until expiration and refrain from establishing any other offsetting positions for the stock or the calls.*

Due to the LQB rule, am I right that if one writes deep in the money calls, that straddle rules applies.

Yes.

If one does write below the LQB strike, how does the tax treatment of each of the 3 above cases vary?

(1) Any interest involved may have to be capitalized.
(2) Holding periods may be impacted, as noted.
(3) Gains and losses will be reported on form 6781 which might cause you to have to carry over losses into another tax year.
(4) If you sell calls which are very very very deep in the money you could invoke the constructive sales rule.

I am sorry that this is getting long. I got more and more confused within the straddle rules that I figure it is best to ask one specific application first.

Please remember I am not a tax professional, so use appropriate caution. Verify everything you can independently.

Good Luck,
Z
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