Variable Prepaid Forwards and Collars: The Tax Rules and the Public Filing Trail

The trade that is not a sale, and the paper trail it leaves

A founder holds a block of stock with a tax basis close to zero. Selling would trigger an immediate capital gains bill; holding means one company's share price sets the family's fortunes. For decades the market's answer has been a family of contracts that sit between the two: the zero-cost collar, the prepaid collar and, most important for large blocks, the variable prepaid forward (VPF). Each one lets the holder take out cash, cut downside risk, or both, while trying to keep the shares for tax purposes.

These contracts are not private. When the holder is an officer, director or 10% owner of a public company, or files Schedule 13D, the contract leaves a regulatory record: a Form 4 within two business days, a Schedule 13D amendment, a footnote in the proxy statement. Two decades of tax litigation, notably the Anschutz and McKelvey cases, have also put real VPF terms into published court opinions.

This analysis covers how the instruments work, the tax framework that shapes them, and what counterparties, advisers and analysts can and cannot learn from public filings. It describes mechanics and considerations. It is not tax or legal advice, and the only named individuals are those whose facts appear in the cited court decisions.

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Part I: The instruments

The zero-cost collar

Structure. The holder buys a put option on the stock with a strike below the current price (the floor) and sells a call option with a strike above it (the cap). The call premium pays for the put, so the net cost at inception can be close to zero. Below the floor, losses are offset; above the cap, gains belong to the counterparty. Between the two strikes the holder keeps full exposure.

Purpose. A collar cuts risk but does not raise cash. The shares stay in the holder's account, usually pledged or held under control arrangements, and the holder keeps voting and dividend rights unless the contract provides otherwise.

The Senate Finance Committee described the same structure in its 1997 report on the constructive sale rules. Its example was a stock trading at $100, a put strike of $95 and a call strike of $110. The holder "has transferred the rights to all gain above the $110 call strike price and all loss below the $95 put strike price" and "retained all risk of loss and opportunity for gain in the range price between $95 and $110." The report also noted that a collar "can be a single contract or can be effected by using a combination of put and call options."

The prepaid collar

Structure. A prepaid collar is a collar plus financing. A lender, often the same dealer, advances cash secured by the collared shares. Because the put floor protects the collateral, a lender may be willing to advance more than it would against the same stock without the hedge.

The variable prepaid forward

Structure. A VPF combines the collar and the financing in one contract. In the Second Circuit's description in Estate of McKelvey (2018), a VPF is an agreement between a short party, "typically, the shareholder of a large quantity of low-basis, appreciated stock," and a long party, typically an investment bank. The bank "agrees to pay the shareholder a substantial sum of money equal to the value of the stock discounted to present value." In return, the shareholder agrees to deliver "up to a maximum number of shares of stock (or their cash equivalent)" on a settlement date, with the exact number set by the share price on a valuation date. The shareholder secures the obligation by pledging the maximum number of shares.

The delivery formula. Floor and cap prices determine how many shares the holder delivers:

• At or below the floor: the holder delivers the maximum number of shares. The counterparty bears the price decline, just as a put buyer would.
• Between the floor and the cap: the holder delivers fewer shares, enough that their value equals the floor price times the maximum number of shares. Below the cap, the holder keeps the appreciation by delivering fewer shares.
• Above the cap: the holder delivers a growing fraction of the maximum again, so gains above the cap pass to the counterparty.

Revenue Ruling 2003-7 uses round numbers. A shareholder with stock at $20 and a basis below $20 per share receives cash up front and agrees to deliver shares in three years. If the stock is below $20 on the exchange date, the bank receives 100 shares. Between $20 and $25, the bank receives shares worth $2,000. Above $25, the bank receives 80 shares. The holder pledges 100 shares, the maximum.

The counterparty's side. A bank is not taking a directional bet on one stock. The Tenth Circuit described how the dealer hedged in Anschutz (2011): it "borrowed shares of the stock at issue... from an unrelated third party and sold those shares in the open market as part of a series of short sales," and used the short-sale proceeds "to fund the upfront payment." The average price achieved on those short sales set the contract's downside protection price. For analysts, this means that setting up a large VPF can involve dealer selling in the market even though the insider has not sold a share.

Settlement. At maturity the holder can deliver the pledged shares, deliver other shares, or, if the contract allows, pay cash. Which option the holder actually has, and whether the holder can afford to use it, turns out to be central to the tax analysis.

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Part II: The tax framework

Section 1259: constructive sales

Congress added Section 1259 in the Taxpayer Relief Act of 1997 after concluding, in the government's later summary to the Supreme Court, that the general realization rule had "led to the development of tax-avoidance mechanisms that provided taxpayers the benefits of selling appreciated assets without effecting a taxable sale." The statute's core rule is that if there is a constructive sale of an appreciated financial position, "the taxpayer shall recognize gain as if such position were sold, assigned, or otherwise terminated at its fair market value" on the date of the constructive sale.

What counts as a constructive sale. Under Section 1259(c)(1), a taxpayer holding an appreciated position in stock makes a constructive sale if the taxpayer (or a related person):

• enters into a short sale of the same or substantially identical property;
• enters into an offsetting notional principal contract (an equity swap, for example);
• enters into a futures or forward contract to deliver the same or substantially identical property;
• acquires the same or substantially identical property when the appreciated position is itself a short sale, offsetting notional principal contract or futures or forward contract; or
• to the extent provided in regulations, enters into other transactions with substantially the same effect.

The forward contract definition. The key words for VPFs appear in Section 1259(d)(1): a forward contract is "a contract to deliver a substantially fixed amount of property (including cash) for a substantially fixed price." The Senate report explained that a contract providing for delivery of an amount of property, such as shares of stock, "subject to significant variation" falls outside the definition. A VPF's variable share count is what keeps it outside the definition.

Collars and the regulations that never came. Collars do not fall within any of the listed categories. The Senate report anticipated that Treasury regulations would decide when collars have "substantially the same effect," based on factors including the stock's volatility, "the spread between the put and call prices, the period of the transaction," and whether the taxpayer keeps the dividends. It suggested option pricing models as one possible measuring tool, and safe harbors for collars with "a sufficient spread between the put and call prices" and "a sufficiently limited period." Those regulations have not been written. When the McKelvey estate asked the Supreme Court to review its case, the government's 2019 brief stated that "the Secretary has not promulgated regulations interpreting the term 'substantially fixed.'" Practitioners therefore assess collars against the report's factors and the statute's text, without a regulatory bright line.

Revenue Ruling 2003-7: the IRS position on VPFs

The IRS set out its position on VPFs in Revenue Ruling 2003-7, published in the Internal Revenue Bulletin on February 3, 2003. The ruling holds that a shareholder has neither sold stock currently under Section 1001 nor made a constructive sale under Section 1259 if the shareholder:

1. receives a fixed amount of cash;
2. at the same time agrees to deliver on a future date a number of shares that "varies significantly depending on the value of the shares on the delivery date";
3. pledges the maximum number of shares that could be required;
4. keeps "an unrestricted legal right to substitute cash or other shares for the pledged shares"; and
5. "is not economically compelled to deliver the pledged shares."

In the ruling's facts, the pledged shares went to an unrelated third-party trustee rather than to the bank, and the shareholder kept the right to vote them and receive dividends. The ruling relies on that point when it distinguishes cases in which title and possession passed to the buyer.

The ruling's limits. The ruling states its own limits. "A different outcome may be warranted," it says, if the shareholder is "under any legal restraint or requirement or under any economic compulsion to deliver pledged shares." Restrictions on owning the stock after settlement, or "an expectation that a shareholder will lack sufficient resources" to settle in cash or other shares, would weigh toward a sale. The variation in the ruling's example (80 to 100 shares) was a "significant variation," so the contract was not a Section 1259 forward contract.

Anschutz: when the VPF came with a share loan

Anschutz Co. v. Commissioner (Tax Court, July 22, 2010, 135 T.C. No. 5; affirmed by the Tenth Circuit, 664 F.3d 313, decided December 27, 2011) is the leading example of a VPF program that failed the Rev. Rul. 2003-7 test.

The facts, as stated by the Tenth Circuit. The Anschutz Corporation (TAC), a qualified subchapter S subsidiary of Anschutz Company, signed a master stock purchase agreement with Donaldson, Lufkin & Jenrette Securities Corp. (DLJ) on May 9, 2000. Under it, TAC entered into a series of VPFs and matching share-lending agreements covering stock of Union Pacific Resources Group, Anadarko Petroleum and Union Pacific Corporation. Key terms:

• DLJ paid up front 75% of the fair market value of the shares in each contract.
• TAC kept the first 50% of any appreciation; gains above that went to DLJ. In the court's terms, the threshold appreciation price multiplier was 1.50.
• Maturities fell between the 10th and 11th anniversaries of each transaction.
• The pledged shares went to Wilmington Trust as collateral agent, which then lent them to DLJ under share-lending agreements. DLJ used them to close out the short sales it had made to hedge. TAC received prepaid lending fees, typically 5% of the value of the lent shares.
• Upfront VPF payments totaled $350,968,652, and prepaid lending fees totaled $23,398,050.
• The schedules for two of the three transactions removed the cash-settlement option.

The holding. The courts looked at the arrangements as a whole. DLJ "obtained possession, and most of the incidents of ownership," of the pledged shares, and TAC "obtained cash payments and an elimination of any risk of loss." The Tenth Circuit agreed with the Tax Court that the transactions "should be treated under the IRC as current sales of TAC's shares to DLJ." It rejected the taxpayers' reliance on Rev. Rul. 2003-7 because the ruling "involved only a VPFC," while this case also involved the purchase agreement and the share loans. It also held that the Section 1058 nonrecognition rule for securities loans did not apply, because the arrangements did not pass through all dividends and did reduce the lender's risk of loss and opportunity for gain.

The deficiencies were computed on the shares DLJ actually borrowed. The Tax Court required gain to be recognized "to the extent of cash received in 2000 and 2001" and entered deficiencies for Anschutz Company of $35,555,065 and $41,580,239 for 2000 and 2001.

What the case means for structuring. In a VPF program, the collateral arrangements decide the tax result as much as the forward does. Once pledged shares are lent to the counterparty so it can cover its hedge, the holder has given up the possession and control on which Rev. Rul. 2003-7 relied.

McKelvey: when the VPF was extended

Estate of McKelvey concerned a different risk: amending a VPF after the stock had fallen.

The facts, as stated by the Second Circuit (906 F.3d 26, decided September 26, 2018). Andrew J. McKelvey, founder and principal shareholder of Monster Worldwide, entered into two VPFs in 2007:

• Bank of America (effective September 11, 2007): a prepayment of $50,943,578.31 against up to 1,765,188 pledged shares, with a floor of $30.4610 and a cap of $40.5809. Monster closed at $32.91 that day.
• Morgan Stanley & Co. International (effective September 24, 2007): a prepayment of $142,626,185.80 against up to 4,762,000 pledged shares, with a floor of $30.894 and a cap of $35.772. Monster closed at $33.47 that day.

In July 2008, two months before the original 2008 settlement dates, McKelvey paid the banks a total of $11,668,590 to push the valuation and settlement dates into early 2010. On the extension dates Monster closed at $18.24 and $17.28, far below both floors. He died on November 27, 2008, and his estate settled the amended contracts in 2009 by delivering 6,519,016 shares.

The procedural history.

• Tax Court, 2017 (148 T.C. 312): ruled for the estate. Open-transaction treatment continued, and Section 1259 was not triggered.
• Second Circuit, 2018: reversed. Extending the valuation dates was a "fundamental change," so the amended contracts replaced the originals. On Section 1259, the court accepted the government expert's Black-Scholes analysis, which put the probability that the stock would be above the floor on the extended valuation dates at about 14.9% (Bank of America) and 12.9% (Morgan Stanley), figures the court treated as roughly 15% and 13%. It held that "probability analysis may be used" and that the number of shares to be delivered was "substantially fixed," so constructive sales occurred.
• Supreme Court: denied the estate's certiorari petition (No. 18-1177) on June 17, 2019.
• Tax Court on remand (161 T.C. No. 9, November 2, 2023): held that the exchange terminated the original obligations for purposes of Section 1234A and that the decedent realized $71,668,034 of short-term capital gain for 2008. The parties had stipulated the long-term gain from the constructive sales at $102,406,962.12.

What the case means for structuring. A contract that met Rev. Rul. 2003-7 when signed can become a constructive sale when it is rolled, if the stock is then so far below the floor that the share count is effectively fixed. The Second Circuit said its rule did not reach all amended VPFs, only those where the delivery amount becomes "substantially fixed because of a share price significantly below the floor price." It declined to set a bright line.

Section 1092: the straddle rules

Section 1259 asks whether a hedge counts as a sale. Section 1092 applies to hedges that are not sales and limits how losses and holding periods are treated while the hedge is on.

When stock is part of a straddle. A straddle is "offsetting positions with respect to personal property," and a position is offsetting if it brings about "a substantial diminution of the taxpayer's risk of loss" on another position. Stock counts as personal property for this purpose when it is actively traded and at least one offsetting position is in that stock or substantially similar or related property (Section 1092(d)(3)). A collar on listed stock, or a VPF referencing it, will generally meet that test.

What follows.

• Loss deferral. Under Section 1092(a)(1), a loss on one leg is deductible only to the extent it exceeds the unrecognized gain in the offsetting positions. The disallowed loss carries forward. This matters when a collar or VPF is closed or rolled at a loss while the stock remains in the portfolio with a large built-in gain.
• Holding period. Under Treas. Reg. 1.1092(b)-2T, the holding period of a straddle position does not begin before the offsetting position ends, unless the long-term holding period had already been met when the straddle was established.
• Carrying costs. Section 263(g) disallows deductions for "interest and carrying charges properly allocable to personal property" that is part of a straddle and adds them to the basis of the property. Borrowing secured by collared stock in a prepaid collar can fall within this rule.
• Dividends. Qualified dividend treatment requires meeting the Section 246(c) holding-period test, modified by Section 1(h)(11) to more than 60 days during a 121-day period. Section 246(c)(4) reduces holding periods for periods when the holder has diminished risk of loss through options to sell, contractual obligations to sell, or similar positions.

The covered call exception. Section 1092(c)(4) excludes stock paired only with "qualified covered call options," which must be exchange-traded, written more than 30 days before expiration and not deep in the money. A collar includes a purchased put, so it falls outside the exception.

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Part III: The disclosure trail

Section 16: the Form 4 record

Officers, directors and beneficial owners of more than 10% of a registered equity class report changes in beneficial ownership on Form 4, which "must be filed before the end of the second business day" after the transaction. Three rules decide how a hedge appears on the form.

Derivative securities go in Table II. The Form 4 instructions direct filers to report acquisitions, dispositions and holdings of derivative securities, "e.g., puts, calls, options," in Table II. Rule 16a-1 defines a put equivalent position as one that "increases in value as the value of the underlying equity decreases," such as a long put or a written call. A collar is a long put plus a written call, and the obligation to deliver under a VPF also gains value as the stock falls.

Transaction codes. The listed codes cover ordinary purchases, sales, exercises and grants. A transaction not specifically listed takes Code "J," with a description in the explanation of responses. Equity swaps and similar instruments add Code "K" to the main code, for example "S/K."

Short-swing and short-sale rules. Under Rule 16b-6(a), establishing or increasing a put equivalent position is deemed a sale of the underlying security for Section 16(b) short-swing profit purposes. An insider who opens a collar or VPF and buys stock within six months therefore faces a matching question. Rule 16c-4 exempts establishing a put equivalent position from the Section 16(c) ban on insider short sales, but only if the underlying shares do not exceed those the insider already owns. In SEC staff interpretation 231.01, the staff applied this to an insider who had issued DECS (put equivalents) backed by issuer common stock. The insider wanted to sell the stock above the minimum number of shares deliverable at maturity. The staff refused: a price decline would increase the shares owed and leave the insider short, and the exemption applies "during the entire lifetime of the put equivalent."

Reading a VPF on Form 4: an anonymized walk-through

The following is drawn from a 2021 Form 4 filed by an officer, director and 10% owner of a listed payments company, who reported the contracts through a special-purpose vehicle held via a wholly owned holding company. The filer is not named here; the point is the format.

Table II, the row itself. Two rows, both titled "Forward Sale Contract (obligation to sell)," with transaction code J. The underlying security is Class A Common Stock, with an indirect ownership flag pointing to a footnote that explains the holding entity. The exercise price, date and amount columns carry only footnote references, and the economic terms are in the footnotes.

The footnotes. They disclose:

• Counterparty: "an unaffiliated third party," not named.
• Scale: an obligation to deliver "up to 4,438,231 aggregate shares," or "at [the vehicle's] election, an equivalent amount of cash."
• Prepayment: "an aggregate cash payment of $275,000,000."
• Collateral: pledged units exchangeable 1-for-1 into Class A shares, which may not otherwise be transferred before settlement. The holder "will retain voting and certain dividend rights," with possible cash payments to the counterparty for certain dividends.
• Price terms: a floor price of $66.4240 for both contracts, and cap prices of $112.0905 and $120.3935.
• Settlement mechanics: 50 components per contract, valued on the volume-weighted average price over 50 trading days ending in September 2024, with the floor, between-floor-and-cap, and above-cap delivery formulas written out in full.

Questions an analyst should answer from a filing like this:

1. Maximum supply and timing. The maximum share count and the valuation window show how many shares could reach the counterparty, and when. Fifty daily components spread the valuation over the window instead of putting it on one date; the footnotes give delivery dates in June through September 2024.
2. Effective sale price. The prepayment and the maximum share count together show how much of the floor value the holder received in advance. The gap between the prepayment and floor value reflects the financing cost and the price of the cap.
3. Retained exposure. The distance from the floor to each cap shows the band of appreciation the holder keeps. A wider band leaves more upside.
4. Control rights. Retained voting and dividend rights, a pledge rather than a transfer, and a cash-settlement election are the features Rev. Rul. 2003-7 relied on. The Form 4 shows whether they are present. It does not show whether the holder has the resources to use the cash election, which the ruling treats as relevant.

Settlement filings. For a holder still subject to Section 16, settlement can produce another Form 4, reporting the disposal of the derivative position in Table II and the delivery of common shares in Table I. Settlement data, set against the original footnotes, shows where the stock ended up relative to the floor and cap.

Schedules 13D and 13G

Schedule 13D. Holders of more than 5% who file Schedule 13D have a parallel obligation. Item 6 requires a description of any "contracts, arrangements, understandings or relationships" concerning the issuer's securities, naming "call options, put options, security-based swaps or any other derivative securities," and securities "pledged or otherwise subject to a contingency" that could give another person voting or investment power. The SEC's October 10, 2023 amendments (Release 33-11253) clarified that Item 6 covers all derivative securities, "including cash-settled derivative securities," that reference the issuer's equity. They also shortened the deadline for 13D amendments to two business days after a material change. Under Rule 13d-2(a), acquiring or disposing of 1% or more of the class is deemed material. Item 7 requires written agreements, including those relating to options, puts and calls, to be filed as exhibits. Where an Item 7 exhibit includes the full confirmation of a VPF or collar, it can be the most detailed public record of the trade.

Schedule 13G. Schedule 13G filers generally amend within 45 days after the end of the calendar quarter in which a material change occurred, with compliance required from September 30, 2024. Schedule 13G has no item equivalent to 13D's Item 6 (its Item 6 covers only other persons entitled to dividends or sale proceeds), so a 13G filer's derivatives may not appear until settlement changes its reported holdings.

Proxy statement disclosure

Hedging policy. Item 407(i) of Regulation S-K requires issuers to describe practices or policies on hedging by employees, officers and directors, using financial instruments "including prepaid variable forward contracts, equity swaps, collars, and exchange funds." The issuer must say which categories are permitted or prohibited, or say that it has no policy. A company that prohibits these instruments limits what its insiders can do. One that permits them signals that a Form 4 like the one above is possible.

Pledged shares. Item 403(b) requires the management ownership table to "indicate, by footnote or otherwise, the amount of shares that are pledged as security." Because VPFs and prepaid collars typically involve a pledge, an increase in pledged-share footnotes between proxy seasons can be an early signal of hedging.

What the filings do not show

The public record is detailed, but it has gaps:

• The holder's tax position. Basis, holding period, and whether the holder intends to rely on Rev. Rul. 2003-7 are not disclosed. The Anschutz basis figures ($0.87, $1.91 and $1.51 per share) became public through the litigation.
• Collateral mechanics beyond the summary. A Form 4 footnote may say the shares are pledged. It usually does not say whether the counterparty can borrow or rehypothecate them, which was decisive in Anschutz.
• The counterparty and its hedge. Footnotes often say only "unaffiliated third party." The dealer's short sales are not reported by the insider.
• Holders outside the reporting perimeter. A family office or individual below 5% who is not an officer, director or 10% holder files no Form 4 and no Schedule 13D. A hedge on a concentrated position in a private company, or in a public company where the family has stepped back from the board, can be invisible.
• Amendments and rolls. An extension like McKelvey's may call for a new filing by a Section 16 insider, but the economic terms of the roll, such as the fee paid, may be summarized rather than fully disclosed.

Summary table: instrument, tax treatment and disclosure

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Part IV: The intelligence implications

For counterparties

Dealers pricing a new VPF or collar for a reporting insider can read the insider's Form 4 history to see how much of the position is already encumbered, and when. The issuer's Item 407(i) policy shows whether the trade is allowed at all. Anschutz is a reminder that the collateral and stock-lending terms the dealer proposes can change the client's tax result. McKelvey shows that a roll negotiated when the stock is well below the floor carries a constructive-sale risk the client may not have priced.

For advisers and family offices

For wealth advisers and single-family offices managing a founder's concentrated stake, public filings serve two purposes. The first is benchmarking: Form 4 footnotes from comparable insiders show prevailing floors, caps, tenors and prepayment ratios in a way dealer term sheets do not. The second is a reporting checklist: a contract entered into by a Section 16 reporting person or a controlled entity is generally reportable on Form 4 within two business days, with economic terms that clients, journalists and the company's other shareholders will read. Offices in our family office directory that hold founder stakes in listed companies, and the firms in our RIA directory that advise them, face these questions whenever a liquidity need arises.

For analysts

For equity analysts and investor-relations teams, the disclosure record tells you where shares may come from and when:

• Supply calendars. Maximum share counts and valuation windows in Form 4 footnotes show when blocks may move to dealers.
• Implied levels. Floor and cap prices show the levels a holder has protected and given up.
• Pledge trends. Changes in pledged-share footnotes from one proxy season to the next can signal new hedging before a Form 4 appears.
• Roll signals. A roll reported when the stock is far below the floor shows that the holder chose to extend rather than settle. After McKelvey, that choice may carry tax consequences.

None of this establishes a holder's tax position or motives.

A closing note on method

Every fact in this analysis comes from a statute, regulation, IRS ruling, SEC rule, court opinion or public filing, the same standard behind our data methodology. The filings show who has contracted to do what. They do not show the reasons, and good analysis keeps those two questions apart.

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Key sources

• 26 U.S.C. 1259 (constructive sales), 1092 (straddles), 263(g), 246(c), 1(h)(11), 1058; Legal Information Institute, Cornell Law School
• Treas. Reg. 1.1092(b)-2T (holding period and loss character for straddle positions)
• Senate Report No. 105-33, Revenue Reconciliation Act of 1997 (Senate Finance Committee, June 20, 1997)
• Revenue Ruling 2003-7, 2003-5 Internal Revenue Bulletin 363 (February 3, 2003)
• Anschutz Co. v. Commissioner, 135 T.C. No. 5 (July 22, 2010), aff'd, 664 F.3d 313 (10th Cir. December 27, 2011)
• Estate of McKelvey v. Commissioner, 148 T.C. 312 (2017), rev'd and remanded, 906 F.3d 26 (2d Cir. 2018); cert. denied, No. 18-1177 (June 17, 2019); on remand, 161 T.C. No. 9 (November 2, 2023)
• Brief for the Respondent in Opposition, Peters v. Commissioner, No. 18-1177 (U.S. Solicitor General, May 2019)
• SEC Form 4 General Instructions; SEC Rules 16a-1, 16b-6 and 16c-4; SEC Compliance and Disclosure Interpretations, Exchange Act Section 16 and Related Rules and Forms (Interpretation 231.01)
• SEC Release No. 33-11253, Modernization of Beneficial Ownership Reporting (October 10, 2023) and fact sheet; Rule 13d-2; Schedule 13D (Rule 13d-101)
• Regulation S-K Items 403(b) and 407(i)
• SEC EDGAR, Form 4 filed September 2021 reporting prepaid variable forward transactions (anonymized above)
• The Tax Adviser, "Estate of McKelvey highlights potential tax pitfalls of variable prepaid forward contracts" (AICPA, October 2025)

Wealthmetrica provides intelligence on investment advisers, family offices and the people who run them. This analysis draws on public regulatory filings, statutes and published research; it is not legal, tax, or investment advice.