The approval of perpetual futures contracts in the US may expose traders to unforeseen tax and regulatory uncertainty if these products are ultimately classified as swaps rather than futures, a concern voiced by CME Group Chairman and CEO Terry Duffy. In an interview, Duffy pointed out the ambiguity surrounding the tax implications for US participants, stating that 'there's a consequence that nobody's talking about.' The comments come amidst CME's ongoing legal challenge against the Commodity Futures Trading Commission (CFTC) regarding the regulator's approval of perpetual futures contracts. The core issue revolves around whether perpetual futures should be legally treated as futures or swaps, with Duffy arguing that they should be considered swaps due to the periodic funding payments exchanged between long and short positions.
Unlike traditional futures, perpetual contracts do not expire and involve recurring funding payments to keep the derivative's price aligned with the underlying asset. Duffy believes this mechanism satisfies the statutory definition of a swap under US law.
The mismatch in designation could lead to institutional traders receiving blended tax treatment under Section 1256 of the US tax code if the contracts are deemed futures, but they would be taxed under 'ordinary' taxation if classified as swaps. Given the novelty of perpetual futures, the IRS has not provided specific guidance on their tax treatment. If regulators or courts ultimately determine that perpetual contracts are swaps, market participants who have been treating them as futures for tax purposes may face uncertainty regarding how to report these positions to the IRS. Legal experts, however, view the issue as more complex, with one noting that 'the challenge here is that textually, by the structure, perpetual futures look a lot like a swap, but economically they perform a lot like futures.' The definition of swaps is considered extremely broad, leaving considerable room for interpretation.
The outcome may depend on how the court interprets the law, particularly in light of the Supreme Court's 2024 Loper Bright decision, which reduced the deference given to agencies' interpretations of ambiguous statutes. The process is expected to be lengthy, with potential litigation and the need for separate guidance from the IRS. Until there is clarity, large institutions may face uncertainty over reporting trades involving perpetual futures, potentially leading to tax implications.