§246A Dividends received deduction reduced where portfolio stock is debt financed

Summary

When a dividend comes from stock that was bought with borrowed money, the usual dividend-received deduction must be cut. The cut is made by using 50 percent (65 percent if the payer is a corporation you own 20 percent of) multiplied by (100 percent minus the average indebtedness percentage). This rule does not apply to qualifying dividends or to dividends received by a small business investment company under the Small Business Investment Act of 1958. Any reduction cannot be larger than the interest deduction (including deductible short‑sale expense) that is tied to that dividend. Key terms in one line each: debt‑financed portfolio stock — portfolio stock that had portfolio debt at some time during the base period; portfolio stock — stock that is not majority‑owned under the 50 percent test (or the 20 percent test when 5 or fewer corporate shareholders own a controlling block); average indebtedness percentage — average portfolio debt divided by the average adjusted basis of the stock; portfolio indebtedness — debt directly tied to the investment (amounts from short sales count as debt from receipt until the short sale is closed); base period — the shorter of the time since the last dividend or one year before the ex‑dividend date. Regulations may disallow interest deductions or treat them differently when the borrower is not the dividend recipient.