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HMRC internal manual

Corporate Finance Manual

Old rules: derivative contracts: historical overview

Background to taxation of derivatives

This guidance applies to periods of account beginning before 1 January 2005 

Until the early 1970s, the only derivative contracts being marketed were futures and options over commodities, such as agricultural products and metals. Companies and individuals who dealt in such contracts often did so as part of a trade, and profits on the dealings formed part of their Case I profits. The case of Cooper v Stubbs (10TC29), heard in 1925, concerned regular, systematic speculation in cotton futures by an individual, which did not constitute a trade. The Court of Appeal overturned a finding by the Special Commissioners that such speculation constituted gambling transactions and held that such dealing constituted a source of income taxable under Case VI of Schedule D. They were influenced in their decision by the fact that the cotton futures were real commercial contracts, capable of going to delivery.

The 1970s saw the emergence of new derivatives over financial assets such as currency, gilts and bonds and shares. Before 6 April 1985, profits from dealings in financial and commodity futures were - if not within Case I - normally assessable under Case VI. Isolated or occasional profits not assessable under Case VI were generally treated as chargeable gains.

From 6 April 1985, financial futures traded on a recognised exchange were taken out of Case VI into a capital gains regime. The capital gains treatment was extended to over the counter (OTC) futures, and to traded and financial options where the contracts were entered into after 29 April 1988. The main legislation dealing with the capital gains treatment of such futures and options is in TCGA92/S143-144A, and there is comprehensive guidance on its application in the Capital Gains Manual at CG55400 onwards.

These ‘pre-1994’ rules continue to be relevant to the tax treatment of derivative contracts which are held by persons other than companies. They may also be relevant to derivatives that are held by companies, but which fall outside the derivative contracts regime.