Pub 550 covers this:
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Payments in lieu of dividends.
If you borrow stock to make a short sale, you may have to remit to the lender payments in lieu of the dividends distributed while you maintain your short position. You can deduct these payments only if
you hold the short sale open at least 46 days (more than 1 year in the case of an extraordinary dividend as defined later) and you itemize your deductions.
You deduct these payments as investment interest on Schedule A (Form 1040). See Interest Expenses
in chapter 3 for more information.
If you close the short sale by the 45th day after the date of the short sale (1 year or less in
the case of an extraordinary dividend), you cannot deduct the payment in lieu of the dividend
you make to the lender. Instead, you must increase the basis of the stock used to close the
short sale by that amount
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Tom Young
