The approval of perpetual futures contracts in the US may expose traders to unforeseen tax and regulatory uncertainty, according to CME Group Chairman and CEO Terry Duffy, who points to the ambiguity surrounding their classification as either swaps or futures. In an interview, Duffy noted that the consequences of this ambiguity have not been widely discussed, particularly with regards to tax implications for US participants.

The comments come as CME continues its legal challenge against the Commodity Futures Trading Commission (CFTC) over 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 instead 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 main concern with the current designation is that if perpetual contracts are classified as futures, many institutional traders could receive a blended tax treatment, with gains and losses treated as 60% long-term and 40% short-term capital gains. However, if they are classified as swaps, they would be taxed under 'ordinary' taxation, which could lead to uncertainty for market participants who have been treating them as futures for tax purposes.

Legal experts agree that the issue is complex, with the definition of swaps being extremely broad and the economic function of perpetual futures resembling that of traditional futures. The challenge lies in determining whether the form or the substance of these contracts should take precedence in their classification. The outcome of the court decision could significantly influence the US approach to perpetual futures, and the process is likely to be lengthy, with potential litigation and the need for separate guidance from the IRS on tax treatment.