Treasury Releases Important New Currency Regulations
Regulations Resolve Many Currency Issues
On December 18, 2017, the U.S. Treasury and IRS (collectively, IRS) published proposed regulations (the Proposed Regulations) that should help to resolve a number of vexing currency issues that taxpayers routinely experience. Although the regulations generally have a prospective effective date, the preamble expressly permits taxpayers to rely on the regulations for taxable years ending (or transactions entered into) on or after December 19, 2017. The most significant policy change the Proposed Regulations introduce is new Prop. Reg. §1.988-7 which would permit taxpayers to remeasure their nonfunctional currency assets and liabilities in a manner that is consistent with U.S. Generally Accepted Accounting Principles (GAAP) and International Financial Reporting Standards (IFRS). Although the IRS has previously proposed such a rule back in 1992 (see Prop. Reg. §1.988-5(f)), this new provision can be relied on presently and is much more likely to be finalized.
This client alert proceeds in three parts. First, we explain some of the issues that taxpayers routinely face. Second, we address how the regulations impact those issues absent the taxpayer making an election under new Prop. Reg. §1.988-7. Third, we address the new Prop. Reg. §1.988-7 election.
The client alert assumes a basic working knowledge of: (i) GAAP/IFRS; (ii) sections 446, 475 and 1256; and (iii) Subpart F and Subpart J of the United States Internal Revenue Code of 1986, as amended. For a primer on, and examples of, the misalignment of the U.S. tax and accounting rules, see generally, John D. McDonald, et. al., The Devil is in the Details: Problems, Solutions & Policy Recommendations with Respect to Currency Translation, Transactions and Hedging, 89 Taxes 119 (2011). In brief, when a controlled foreign corporation (CFC) generates currency gains in excess of currency losses under section 988, the net amount is usually considered foreign personal holding company income (FPHCI), a type of subpart F income. See §954(c)(1)(D). There is an exception, however, for transactions entered into the ordinary course of the taxpayer’s business (or “bona fide hedges” thereof) that generate currency gains but do not generate other types of subpart F income. This exception is referred to as the “business needs” exception.