§ 985. Functional currency

Legislative history

Reconstructed from this section’s Code source credit and amendment notes, resolved against the local Statutes at Large. Editorial notes are evidence, not the law that made the change.

1. 1986

   Tax Reform Act of 1986

   Pub. L. 99–514 title XII § 1261(a) · 100 Stat. 2085

   Enacted · 26 U.S.C. § 985

   (Added Pub. L. 99–514, title XII, § 1261(a), Oct. 22, 1986, 100 Stat. 2585.)

   Source evidence

   Code source credit
   (Added Pub. L. 99–514, title XII, § 1261(a), Oct. 22, 1986, 100 Stat. 2585.)

   Enacted provision · exact public law section
   (a) General Rule.— Part III of subchapter N of chapter 1 is amended by adding at the end thereof the following new subpart: “Subpart J— Foreign Currency Transactions “Sec. 985. Functional currency. “Sec. 986. Determination of foreign corporation’s earnings and profits and foreign taxes. “Sec. 987. Branch transactions. “Sec. 988. Treatment of certain foreign currency transactions. “Sec. 989. Other definitions and special rules. “SEC. 985. FUNCTIONAL CURRENCY. “(a) In General.— Unless otherwise provided in regulations, all determinations under this subtitle shall be made in the taxpayer’s functional currency. “(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.— The functional currency of any qualified business unit shall be the dollar if activities of such unit are 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.— Any change in the functional currency shall be treated as a change in the taxpayer’s method of accounting for purposes of section 481 under procedures to be established by the Secretary. “SEC. 986. DETERMINATION OF FOREIGN CORPORATION S EARNINGS AND PROFITS AND FOREIGN TAXES. “(a) Earnings and Profits and Distributions.— For 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. “(b) Foreign Taxes.— “(1) In general.— In determining the amount of foreign taxes deemed paid under section 902 or 960— “(A) any foreign income taxes paid by a foreign corporation shall be translated into dollars using the exchange rates as of the time of payment, and “(B) any adjustment to the amount of foreign income taxes paid by a foreign corporation shall be translated into dollars using— “(i) except as provided in clause (ii), the appropriate exchange rate as of when such adjustment is made, and “(ii) in the case of any refund or credit of foreign taxes, using the exchange rate as of the time of original payment of such foreign income taxes. “(2) Foreign income taxes.— For purposes of paragraph (1), ‘foreign income taxes’ means any income, war profits, or excess profits taxes paid to any foreign country or to any possession of the United States. “(c) Previously Taxed Earnings and Profits.— “(1) In general.— Foreign currency gain or loss with respect to distributions of previously taxed earnings and profits (as described in section 959 or 1293(c)) attributable to movements in exchange rates between the times of deemed and actual distribution shall be recognized and treated as ordinary income or loss from the same source as the associated income inclusion. “(2) Distributions through tiers.— The Secretary shall prescribe regulations with respect to the treatment of distributions of previously taxed earnings and profits through tiers of foreign corporations. “SEC. 987. BRANCH TRANSACTIONS. “In 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, “(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, and “(4) by translating foreign income taxes paid by each qualified business unit of the taxpayer in the same manner as provided under section 986(b). “SEC. 988. TREATMENT OF CERTAIN FOREIGN CURRENCY TRANSACTIONS. “(a) General Rule.— “(1) Treatment as ordinary income or loss.— “(A) In general.— Except as otherwise provided in this section, any foreign currency gain or loss attributable to a section 988 transaction shall be computed separately and treated as ordinary income or loss (as the case may be). “(B) Special rule for forward contracts, etc.— Except as provided in regulations, a taxpayer may elect to treat any foreign currency gain or loss attributable to a forward contract, a futures contract, or option described in subsection (c)(1)(B)(iii) which is a capital asset in the hands of the taxpayer and which is not a part of a straddle (within the meaning of section 1092(c), without regard to paragraph (4) thereof) as capital gain or loss (as the case may be) if the taxpayer makes such election and identifies such transaction before the close of the day on which such transaction is entered into (or such earlier time as the Secretary may prescribe). “(2) Gain or loss treated as interest for certain purposes.— To the extent provided in regulations, any amount treated as ordinary income or loss under paragraph (1) shall be treated as interest income or expense (as the case may be). “(3) Source.— “(A) In general.— Except as otherwise provided in regulations, in the case of any amount treated as ordinary income or loss under paragraph (1) (without regard to paragraph (1)(B)), the source of such amount shall be determined by reference to the residence of the taxpayer or the qualified business unit of the taxpayer on whose books the asset, liability, or item of income or expense is properly reflected. “(B) Residence.— For purposes of this subpart— “(i) In general.— The 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. “(ii) Exception.— In the case of a qualified business unit of any taxpayer (including an individual), the residence of such unit shall be the country in which the principal place of business of such qualified business unit is located. “(C) Special rule for certain related party loans.— Except 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.— The term 10-percent owned foreign corporation’ means any foreign corporation in which the United States person owns directly or indirectly at least 10 percent of the voting stock. “(b) Foreign Currency Gain or Loss.— For purposes of this section— “(1) Foreign currency gain.— The term ‘foreign currency gain’ means any gain from a section 988 transaction to the extent such gain does not exceed gain realized by reason of changes in exchange rates on or after the booking date and before the payment date. “(2) Foreign currency loss.— The term ‘foreign currency loss’ means any loss from a section 988 transaction to the extent such loss does not exceed the loss realized by reason of changes in exchange rates on or after the booking date and before the payment date. “(c) Other Definitions.— For purposes of this section— “(1) Section 988 transaction.— “(A) In general.— The 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 transactions.— For 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 if such instrument is not marked to market at the close of the taxable year under section 1256. 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. “(C) Special rules for disposition of nonfunctional currency.— “(i) In general.— In the case of any disposition of any nonfunctional currency— “(I) such disposition shall be treated as a section 988 transaction, and “(II) for purposes of determining the foreign currency gain or loss from such transaction, paragraphs (1) and (2) of subsection (b) shall be applied by substituting ‘acquisition date’ for ‘booking date’ and ‘disposition’ for ‘payment date’. “(ii) Nonfunctional currency.— For purposes of this section, the term ‘nonfunctional currency’ includes coin or currency, and nonfunctional currency denominated demand or time deposits or similar instruments issued by a bank or other financial institution. “(2) Booking date.— The 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, “(B) in the case of a transaction described in paragraph (1)(B)(Ü), the date on which accrued or otherwise taken into account, or “(C) in the case of a transaction described in paragraph (1)(B)(iii), the date on which the position is entered into or acquired. “(3) Payment date.— The term ‘payment date’ means— “(A) in the case of a transaction described in paragraph (1)(B) (i) or (ii), the date on which payment is made or received, or “(B) in the case of a transaction described in paragraph (1)(B)(iii), the date payment is made or received or the date the taxpayer’s rights with respect to the position are terminated. “(4) Debt instrument.— The term ‘debt instrument’ means a bond, debenture, note, or certificate or other evidence of indebtedness. To the extent provided in regulations, such term shall include preferred stock. “(d) Treatment of 988 Hedging Transactions.— “(1) In general.— To the extent provided in regulations, if any section 988 transaction is part of a 988 hedging transaction, all transactions which are part of such 988 hedging transaction shall be integrated and treated as a single transaction or otherwise treated consistently for purposes of this section. For purposes of the preceding sentence, the determination of whether any transaction is a section 988 transaction shall be determined without regard to whether such transaction would otherwise be marked-to-market under section 1256 and such term shall not include any transaction with respect to which an election is made under subsection (a)(1)(B). Sections 1092 and 1256 shall not apply to a transaction covered by this subsection. “(2) 988 hedging transaction.— For purposes of paragraph (1), the term ‘988 hedging transaction’ means any transaction— “(A) entered into by the taxpayer primarily— “(i) to reduce risk of currency fluctuations with respect to property which is held or to be held by the taxpayer, or “(ii) to reduce 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.— This section shall apply to section 988 transactions entered into by an individual only to the extent expenses properly allocable to such transactions meet the requirements of section 162 or 212 (other than that part of section 212 dealing with expenses incurred in connection with taxes). “SEC. 989. OTHER DEFINITIONS AND SPECIAL RULES. “(a) Qualified Business Unit.— For purposes of this subpart, the term ‘qualified business unit’ means any separate and clearly identified unit of a trade or business of a taxpayer which maintains separate books and records. “(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), 551(a), or 1293(a), the weighted 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 weighted average exchange rate for the taxable year of such qualified business unit. “(c) Regulations.— 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), and (5) providing for the appropriate treatment of related party transactions (including transactions between qualified business units of the same taxpayer).”

1 of 1 references resolved to an enrolled provision