Income Taxation of Derivatives and other Financial Instruments - Economic Substance versus Legal Form, A study focusing on Swedish non-financial companies

Sammanfattning:  From an economic viewpoint, derivatives and credit-extension instruments are the basic building blocks of all financial instruments. Thus by structuring these building blocks in various combinations it is possible to attain the economic substance of any conventional financial instrument, for example, regular shares or bonds, as well as more complex financial instruments such as contingent debt instruments.The legal form of financial instruments, as established in Swedish income tax legislation, is not systematically based on the instrument-s economic substance. For this reason situations exist in which the payoff from a certain economic substance is taxed arbitrarily. More specifically, the payoff from a financial instrument is not always taxed similar to the net payoff from its building blocks, and thereby the Swedish income tax system provides tax arbitrage opportunities.This study addresses Swedish income tax treatment of derivatives and other financial instruments held by non-financial companies. Special emphasis is given to the income tax treatment of and tax arbitrage opportunities related to hybrid financial instruments and synthetic instruments. Furthermore, possible ways of dealing with financial instruments used for hedging the business risks of non-financial companies is discussed. Finally, methods to improve the tax treatment of financial instruments and to prevent existing tax arbitrage opportunities related to them is presented.