26 U.S.C. § 246A — Dividends received deduction reduced where portfolio stock is debt financed

(a) General rule. If a corporation receives a dividend on "debt-financed portfolio stock," the usual 50% (or 65%, for a 20-percent owned corporation) deduction rate under sections 243 or 245(a) is replaced. The new rate is 50% (or 65%) multiplied by 100% minus the stock's "average indebtedness percentage." In other words, the more the stock was financed with debt, the smaller the deduction. (b) Section not to apply to dividends for which 100 percent dividends received deduction allowable. This reduction doesn't apply to "qualifying dividends" as defined in section 243(b), or to dividends received by a small business investment company operating under the Small Business Investment Act of 1958. (c) Debt financed portfolio stock. Stock counts as "debt financed portfolio stock" if, at some point during the relevant base period, there was debt tied to that stock. "Portfolio stock" generally means any stock — except stock where the taxpayer owns at least 50% of both the voting power and the value (this is treated as a controlling stake, not a portfolio investment), or where the taxpayer owns at least 20% of both voting power and value and five or fewer corporate shareholders together own a controlling 50% stake. For stock in a bank or bank holding company, if the taxpayer owns at least 80% of its value, the taxpayer is also treated as owning any stock they have an option to buy, for purposes of the 50%-ownership test. Certain preferred stock described in section 1504(a)(4) doesn't count toward any of these ownership tests. (d) Average indebtedness percentage. This percentage is the average amount of debt tied to the stock during the "base period," divided by the average adjusted basis of the stock during that same period (both figured under regulations). If the taxpayer didn't hold the stock for the whole base period, only the time they actually held it counts. "Portfolio indebtedness" means debt directly tied to buying the stock — and money received from a short sale counts as debt for the time between receiving it and closing the short sale. The "base period" for any dividend is the shorter of: the time since the stock's last previous dividend, or the one year before this dividend's ex-dividend date. (e) Reduction in dividends received deduction not to exceed allocable interest. Under regulations, the amount this section cuts from the deduction can never be more than the interest expense (including deductible short-sale expense) that's actually tied to that dividend. (f) Regulations. The Secretary's regulations under section 7701(f) must include rules for cases where someone other than the dividend recipient owes the debt — in those cases, the rules can disallow the interest deduction instead of, or along with, reducing the dividends-received deduction.