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IRS proposes tax relief for some money fund investors

By Sarah N. Lynch

WASHINGTON (Reuters) - The Internal Revenue Service on Wednesday proposed new guidance to address some of the tax concerns the money market fund industry has raised about potential industry reforms.

The Securities and Exchange Commission has proposed reforms to the $2.6 trillion money market fund industry intended to reduce the risk of abrupt withdrawals from money funds.

The centerpiece of the proposal calls for prime funds used by institutional investors to make a transition from a stable price of $1 per share to a floating net asset value.

That reform is a direct response to what happened in 2008 when the Reserve Primary Fund, one of the largest money funds, suffered losses on Lehman Brothers debt and could not maintain its $1 per share price, known as "breaking the buck."

That ignited a run by investors across the money fund industry, cutting off a major source of overnight funding for many corporations.

The industry has staunchly opposed a switch to a floating net asset value (NAV), saying investors would lose interest in the product, partly due to tax and accounting burdens.

One of the industry's major concerns was that a floating NAV would trigger "wash sale" tax rules, which bar an investor from recognizing losses from the sale of securities if the investor purchased substantially identical shares within 30 days before or after such sale.

Companies frequently use money market funds to meet short-term funding needs, typically buying and selling money market fund shares on a daily or weekly basis.

The IRS's proposed guidance would grant investors in money market funds with a floating NAV some relief from those "wash sale" tax rules, as long as the loss was not more than 50 basis points, or one half of 1 percent.

The guidance did not, however, address a separate concern by the industry about potential tax and record-keeping burdens that could arise from a floating NAV, though the SEC has previously said that the IRS is expected to come up with a fix.

The Financial Stability Oversight Council, a group of regulators created by the Dodd-Frank reform law, had asked the IRS late last year to look into the tax concerns raised by the fund industry, as part of a broader proposal calling for reforms to the money market fund industry.

The IRS' proposed guidance will be open for a 90-day comment period. It would only be finalized if the SEC ultimately decides to adopt rules requiring some funds to have a floating net asset value.

"Today's action is consistent with the Financial Stability Oversight Council's past guidance and gives stakeholders needed clarity as reform options are considered," a Treasury Department spokeswoman said.

(Reporting by Sarah N. Lynch; Editing by Karey Van Hall and Steve Orlofsky)

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