26 USC 988 - Treatment of certain foreign currency transactions

Collapse to view only § 988. Treatment of certain foreign currency transactions

§ 985. Functional currency
§ 986. Determination of foreign taxes and foreign corporation’s earnings and profits
§ 987. Branch transactions
§ 988. Treatment of certain foreign currency transactions
§ 989. Other definitions and special rules

§ 985. Functional currency

(a) In general

(b) Functional currency

(1) In general

For purposes of this subtitle, the term “functional currency” means—

(A) except as provided in subparagraph (B), the dollar, or

(B) in the case of a qualified business unit, the currency of the economic environment in which a significant part of such unit’s activities are conducted and which is used by such unit in keeping its books and records.

(2) Functional currency where activities primarily conducted in dollars

(3) Election

To the extent provided in regulations, the taxpayer may elect to use the dollar as the functional currency for any qualified business unit if—

(A) such unit keeps its books and records in dollars, or

(B) the taxpayer uses a method of accounting that approximates a separate transactions method.

Any such election shall apply to the taxable year for which made and all subsequent taxable years unless revoked with the consent of the Secretary.

(4) Change in functional currency treated as a change in method of accounting

(Added Pub. L. 99–514, title XII, § 1261(a), Oct. 22, 1986,

§ 986. Determination of foreign taxes and foreign corporation’s earnings and profits

(a) Foreign income taxes

(1) Translation of accrued taxes

(A) In general

(B) Exception for certain taxesSubparagraph (A) shall not apply to any foreign income taxes—

(i) paid after the date 2 years after the close of the taxable year to which such taxes relate, or

(ii) paid before the beginning of the taxable year to which such taxes relate.

(D) Elective exception for taxes paid other than in functional currency

(i) In general

(ii) Application to qualified business units

(iii) Election

(E) Special rule for regulated investment companies

(F) Cross reference

(2) Translation of taxes to which paragraph (1) does not applyFor purposes of determining the amount of the foreign tax credit, in the case of any foreign income taxes to which subparagraph (A) or (E) of paragraph (1) does not apply—

(A) such taxes shall be translated into dollars using the exchange rates as of the time such taxes were paid to the foreign country or possession of the United States, and

(B) any adjustment to the amount of such taxes shall be translated into dollars using—

(i) except as provided in clause (ii), the exchange rate as of the time when such adjustment is paid to the foreign country or possession, or

(ii) in the case of any refund or credit of foreign income taxes, using the exchange rate as of the time of the original payment of such foreign income taxes.

(3) Authority to permit use of average rates

(4) Foreign income taxes

(b) Earnings and profits and distributionsFor purposes of determining the tax under this subtitle—

(1) of any shareholder of any foreign corporation, the earnings and profits of such corporation shall be determined in the corporation’s functional currency, and

(2) in the case of any United States person, the earnings and profits determined under paragraph (1) (when distributed, deemed distributed, or otherwise taken into account under this subtitle) shall (if necessary) be translated into dollars using the appropriate exchange rate.

(1) In general

(2) Distributions through tiers

(Added Pub. L. 99–514, title XII, § 1261(a), Oct. 22, 1986, 100 Stat. 2586; amended Pub. L. 100–647, title I, § 1012(v)(1)(A), Nov. 10, 1988, 102 Stat. 3528; Pub. L. 105–34, title XI, § 1102(a)(1), (b)(1), Aug. 5, 1997, 111 Stat. 963, 965; Pub. L. 108–357, title IV, § 408(a), (b), Oct. 22, 2004, 118 Stat. 1499.)

§ 987. Branch transactionsIn the case of any taxpayer having 1 or more qualified business units with a functional currency other than the dollar, taxable income of such taxpayer shall be determined—

(1) by computing the taxable income or loss separately for each such unit in its functional currency,

(2) by translating the income or loss separately computed under paragraph (1) at the appropriate exchange rate, and

(3) by making proper adjustments (as prescribed by the Secretary) for transfers of property between qualified business units of the taxpayer having different functional currencies, including—

(A) treating post-1986 remittances from each such unit as made on a pro rata basis out of post-1986 accumulated earnings, and

(B) treating gain or loss determined under this paragraph as ordinary income or loss, respectively, and sourcing such gain or loss by reference to the source of the income giving rise to post-1986 accumulated earnings.

(Added Pub. L. 99–514, title XII, § 1261(a), Oct. 22, 1986, 100 Stat. 2586; amended Pub. L. 100–647, title I, § 1012(v)(1)(B), Nov. 10, 1988, 102 Stat. 3528.)

§ 988. Treatment of certain foreign currency transactions

(a) General ruleNotwithstanding any other provision of this chapter—

(1) Treatment as ordinary income or loss

(A) In general

(B) Special rule for forward contracts, etc.

(2) Gain or loss treated as interest for certain purposes

(3) Source

(A) In general

(B) ResidenceFor purposes of this subpart—

(i) In generalThe residence of any person shall be—(I) in the case of an individual, the country in which such individual’s tax home (as defined in section 911(d)(3)) is located,(II) in the case of any corporation, partnership, trust, or estate which is a United States person (as defined in section 7701(a)(30)), the United States, and(III) in the case of any corporation, partnership, trust, or estate which is not a United States person, a country other than the United States.

If an individual does not have a tax home (as so defined), the residence of such individual shall be the United States if such individual is a United States citizen or a resident alien and shall be a country other than the United States if such individual is not a United States citizen or a resident alien.

(ii) Exception

(iii) Special rule for partnerships

(C) Special rule for certain related party loansExcept to the extent provided in regulations, in the case of a loan by a United States person or a related person to a 10-percent owned foreign corporation which is denominated in a currency other than the dollar and bears interest at a rate at least 10 percentage points higher than the Federal mid-term rate (determined under section 1274(d)) at the time such loan is entered into, the following rules shall apply:

(i) For purposes of section 904 only, such loan shall be marked to market on an annual basis.

(ii) Any interest income earned with respect to such loan for the taxable year shall be treated as income from sources within the United States to the extent of any loss attributable to clause (i).

For purposes of this subparagraph, the term “related person” has the meaning given such term by section 954(d)(3), except that such section shall be applied by substituting “United States person” for “controlled foreign corporation” each place such term appears.

(D) 10-percent owned foreign corporation

(b) Foreign currency gain or lossFor purposes of this section—

(1) Foreign currency gain

(2) Foreign currency loss

(3) Special rule for certain contracts, etc.

(1) Section 988 transaction

(A) In generalThe term “section 988 transaction” means any transaction described in subparagraph (B) if the amount which the taxpayer is entitled to receive (or is required to pay) by reason of such transaction—

(i) is denominated in terms of a nonfunctional currency, or

(ii) is determined by reference to the value of 1 or more nonfunctional currencies.

(B) Description of transactionsFor purposes of subparagraph (A), the following transactions are described in this subparagraph:

(i) The acquisition of a debt instrument or becoming the obligor under a debt instrument.

(ii) Accruing (or otherwise taking into account) for purposes of this subtitle any item of expense or gross income or receipts which is to be paid or received after the date on which so accrued or taken into account.

(iii) Entering into or acquiring any forward contract, futures contract, option, or similar financial instrument.

The Secretary may prescribe regulations excluding from the application of clause (ii) any class of items the taking into account of which is not necessary to carry out the purposes of this section by reason of the small amounts or short periods involved, or otherwise.

(i) In generalIn the case of any disposition of any nonfunctional currency—(I) such disposition shall be treated as a section 988 transaction, and(II) any gain or loss from such transaction shall be treated as foreign currency gain or loss (as the case may be).

(ii) Nonfunctional currency

(D) Exception for certain instruments marked to market

(i) In general

(ii) Election out(I) In general(II) Time for making election(III) Special rule for partnerships, etc.

(iii) Treatment of certain partnerships

(E) Special rules for certain funds

(i) In general

(ii) Special rule where electing partnership does not qualify

(iii) Qualified fund definedFor purposes of this subparagraph, the term “qualified fund” means any partnership if—(I) at all times during the taxable year (and during each preceding taxable year to which an election under subclause (V) applied), such partnership has at least 20 partners and no single partner owns more than 20 percent of the interests in the capital or profits of the partnership,(II) the principal activity of such partnership for such taxable year (and each such preceding taxable year) consists of buying and selling options, futures, or forwards with respect to commodities,(III) at least 90 percent of the gross income of the partnership for the taxable year (and for each such preceding taxable year) consisted of income or gains described in subparagraph (A), (B), or (G) of section 7704(d)(1) or gain from the sale or disposition of capital assets held for the production of interest or dividends,(IV) no more than a de minimis amount of the gross income of the partnership for the taxable year (and each such preceding taxable year) was derived from buying and selling commodities, and(V) an election under this subclause applies to the taxable year.

An election under subclause (V) for any taxable year shall be made on or before the 1st day of such taxable year (or, if later, on or before the 1st day during such year on which the partnership holds an instrument referred to in clause (i)). Any such election shall apply to the taxable year for which made and all succeeding taxable years unless revoked with the consent of the Secretary.

(iv) Treatment of certain currency contracts(I) In general(II) Gains and losses treated as short-term

(v) Special rules for clause (iii)(I)(I) Certain general partners(II) Treatment of incentive compensation(III) Treatment of tax-exempt partners(IV) Look-thru rule

(vi) Other special rulesFor purposes of this subparagraph—(I) Related persons(II) Predecessors(III) Inadvertent terminations(IV) Treatment of certain debt instruments

(2) Booking dateThe term “booking date” means—

(A) in the case of a transaction described in paragraph (1)(B)(i), the date of acquisition or on which the taxpayer becomes the obligor, or

(B) in the case of a transaction described in paragraph (1)(B)(ii), the date on which accrued or otherwise taken into account.

(3) Payment date

(4) Debt instrument

(5) Special rules where taxpayer takes or makes delivery

(d) Treatment of 988 hedging transactions

(1) In general

(2) 988 hedging transactionFor purposes of paragraph (1), the term “988 hedging transaction” means any transaction—

(A) entered into by the taxpayer primarily—

(i) to manage risk of currency fluctuations with respect to property which is held or to be held by the taxpayer, or

(ii) to manage risk of currency fluctuations with respect to borrowings made or to be made, or obligations incurred or to be incurred, by the taxpayer, and

(B) identified by the Secretary or the taxpayer as being a 988 hedging transaction.

(e) Application to individuals

(1) In general

(2) Exclusion for certain personal transactionsIf—

(A) nonfunctional currency is disposed of by an individual in any transaction, and

(B) such transaction is a personal transaction,

no gain shall be recognized for purposes of this subtitle by reason of changes in exchange rates after such currency was acquired by such individual and before such disposition. The preceding sentence shall not apply if the gain which would otherwise be recognized on the transaction exceeds $200.

(3) Personal transactionsFor purposes of this subsection, the term “personal transaction” means any transaction entered into by an individual, except that such term shall not include any transaction to the extent that expenses properly allocable to such transaction meet the requirements of—

(A) section 162 (other than traveling expenses described in subsection (a)(2) thereof), or

(B) section 212 (other than that part of section 212 dealing with expenses incurred in connection with taxes).

(Added Pub. L. 99–514, title XII, § 1261(a), Oct. 22, 1986, 100 Stat. 2587; amended Pub. L. 100–647, title I, § 1012(v)(2)(A), (3), (4), (6)–(8), title VI, § 6130(a), (b), Nov. 10, 1988, 102 Stat. 3529, 3530, 3717; Pub. L. 101–239, title VII, § 7811(i)(7), Dec. 19, 1989, 103 Stat. 2410; Pub. L. 103–66, title XIII, § 13223(b)(1), Aug. 10, 1993, 107 Stat. 484; Pub. L. 105–34, title XI, § 1104(a), Aug. 5, 1997, 111 Stat. 967; Pub. L. 106–170, title V, § 532(b)(3), Dec. 17, 1999, 113 Stat. 1930.)

§ 989. Other definitions and special rules

(a) Qualified business unit

(b) Appropriate exchange rate

Except as provided in regulations, for purposes of this subpart, the term “appropriate exchange rate” means—

(1) in the case of an actual distribution of earnings and profits, the spot rate on the date such distribution is included in income,

(2) in the case of an actual or deemed sale or exchange of stock in a foreign corporation treated as a dividend under section 1248, the spot rate on the date the deemed dividend is included in income,

(3) in the case of any amounts included in income under section 951(a)(1)(A) or 1293(a), the average exchange rate for the taxable year of the foreign corporation, or

(4) in the case of any other qualified business unit of a taxpayer, the average exchange rate for the taxable year of such qualified business unit.

For purposes of the preceding sentence, any amount included in income under section 951(a)(1)(B) shall be treated as an actual distribution made on the last day of the taxable year for which such amount was so included.

The Secretary shall prescribe such regulations as may be necessary or appropriate to carry out the purposes of this subpart, including regulations—

(1) setting forth procedures to be followed by taxpayers with qualified business units using a net worth method of accounting before the enactment of this subpart,

(2) limiting the recognition of foreign currency loss on certain remittances from qualified business units,

(3) providing for the recharacterization of interest and principal payments with respect to obligations denominated in certain hyperinflationary currencies,

(4) providing for alternative adjustments to the application of section 905(c),

(5) providing for the appropriate treatment of related party transactions (including transactions between qualified business units of the same taxpayer), and

(6) setting forth procedures for determining the average exchange rate for any period.

(Added Pub. L. 99–514, title XII, § 1261(a), Oct. 22, 1986, 100 Stat. 2590; amended Pub. L. 100–647, title I, § 1012(v)(5), Nov. 10, 1988, 102 Stat. 3529; Pub. L. 103–66, title XIII, § 13231(c)(4)(C), Aug. 10, 1993, 107 Stat. 499; Pub. L. 104–188, title I, § 1501(b)(9), Aug. 20, 1996, 110 Stat. 1826; Pub. L. 105–34, title XI, § 1102(b)(2), (3), Aug. 5, 1997, 111 Stat. 966; Pub. L. 108–357, title IV, § 413(c)(17), Oct. 22, 2004, 118 Stat. 1508.)