IRS Section 871(m) for Options

Certain options positions held by non-U.S. residents are eligible for a “Dividend Equivalent” withholding tax under IRS Section 871(m).

Typically, when a non-resident owns stock in a U.S. company, the IRS takes a tax (usually 30%) out of any dividends they receive. As some derivatives may closely mirror the payment of the underlying dividend, the IRS introduced a tax on “Dividend Equivalents”.

• "Dividend Equivalents": If a contract pays you an amount that "references" a U.S. dividend, that payment is called a dividend equivalent.
• Even though the investor doesn't own the stock, the IRS treats that payment as if it were a real dividend.
• Under IRS Section 871(m), a withholding tax is applied to Dividend Equivalent payments received by foreign investors from derivatives or securities that reference dividends paid by U.S. stocks.
• Certain options transactions are eligible for this withholding.
• DriveWealth posts these as “DEEM” transactions

This withholding is applied on options transactions in certain underlying securities, in cases where the option contract substantially replicates the economic conditions of the underlying security. Specifically, this means it applies on option contracts where Delta = 1 (currently; however IRS has plans to lower to Delta 0.8 in near future).

When a customer holds a position that qualifies for this withholding, if they are not a U.S. customer, an amount of that position value will be withheld and paid to the US IRS.

For example, if the Account holds a position in an eligible security during a dividend payment, and the delta of the held option contract is equal to 1, then a DEEM transaction will be applied to the Account.

{
    "id": "event_fd5ff76a-5999-41ba-afbc-d207fe42633e",
    "type": "transactions.created",
    "timestamp": "2024-02-18T09:04:55.144034984Z",
    "payload": {
        "accountID": "1e0e17df-0fba-456c-9acc-3baa41d5372c.1689347705758",
        "accountNo": "UWEF000001",
        "userID": "1e0e17df-0fba-456c-9acc-3baa41d5372c",
        "transaction": {
            "accountAmount": 64.8,
            "accountBalance": 43541847.86,
            "comment": "QQQ240110C00445000$0.108/share for DEEM",
            "finTranID": "LB.0f917008-a2bc-44dc-9177-7e1ed6d1601d",
            "finTranTypeID": "DEEM",
            "feeSec": 0,
            "feeTaf": 0,
            "feeBase": 0,
            "feeXtraShares": 0,
            "feeExchange": 0,
            "dividend": {
                "type": "CASH",
                "amountPerShare": 0.108
            }
        }
    }