Series 7 practice questionhardOptions — Tax Treatment of Covered Calls
An investor who writes a deep in-the-money covered call on stock held for 10 months may face which tax consequence?
- AThe holding period for long-term capital gains is suspended or restarted✓ Correct answer
- BThe premium is taxed as ordinary income immediately
- CNo tax consequence until the option expires
- DThe call premium is added to the cost basis of the stock
Explanation
Why A — The holding period for long-term capital gains is suspended or restarted
Writing a deep in-the-money covered call on stock not yet held for the long-term holding period can toll (suspend) or restart the holding period. This is a qualified covered call rule designed to prevent investors from locking in short-term gains while writing deep ITM calls to defer recognition. The stock may lose its long-term holding period status.
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