CME's Duffy Highlights Overlooked Tax Risk Associated with US Perpetual Futures

The approval of perpetual futures contracts in the US could lead to unforeseen tax and regulatory challenges for traders if these products are ultimately classified as swaps rather than futures, a matter that has garnered little attention, according to CME Group Chairman and CEO Terry Duffy. In an interview with CoinDesk, Duffy stated, 'There's a consequence that nobody's talking about. There's ambiguity right there, from a tax perspective, for all US participants now.' The comments come as CME continues its legal challenge against the Commodity Futures Trading Commission (CFTC) regarding the regulator's approval of perpetual futures contracts in the US. The outcome of the court decision could significantly impact how the US approaches the rapidly growing area of perpetual futures, including how the Internal Revenue Service (IRS) taxes these contracts. The dispute centers on whether perpetual futures should be legally treated as futures or swaps. Duffy argues that perpetual contracts should fall under the legal definition of swaps due to the periodic funding payments exchanged between long and short positions, which he believes satisfies the statutory definition of a swap under US law. Unlike traditional futures, perpetual contracts do not expire and instead involve periodic funding payments intended to keep the derivative's price close to that of the underlying asset. If perpetual contracts are classified as futures, many institutional traders may receive a blended tax treatment under Section 1256 of the US tax code, where gains and losses are generally treated as 60% long-term and 40% short-term capital gains. However, if they are classified as swaps, they will be taxed under 'ordinary' taxation. Given the novelty of perpetual futures, the IRS has not provided specific guidance on their tax treatment. Therefore, if regulators or courts ultimately conclude that perpetual contracts are swaps rather than futures, market participants who have been treating them as futures for tax purposes may face uncertainty about how to report these positions to the IRS. Legal experts, however, consider the issue more complex, stating that while perpetual futures may resemble swaps structurally, they function economically like futures, making it a 'substance-over-form question.' The definition of swaps is extremely broad, leaving considerable room for interpretation regarding its application to new financial products such as perpetual futures. The outcome will depend on the court's interpretation, and the process is likely to be long and drawn out, with potential litigation and the need for separate guidance from the IRS. Until regulators, tax authorities, or courts provide greater clarity, large institutions may face uncertainty over how to report trades involving perpetual futures, highlighting the need for clear guidance to avoid potential tax implications.