International Tax Aspects of Foreign Currency Transactions

(ii) Accrued foreign income tax payables are § 988transactions, unless taxes are incurred by a U.S. dollarQBU of a domestic taxpayer. See Reg. § 1.988-1(a)(2)(ii);see also Reg. § 1.905-3T(b) (rules for translating paymentsof foreign income taxes for purposes of determining theamount of the foreign tax credit under § 905(c)).According to the preamble, this change was intended toconform the treatment of taxes paid in a non-functionalcurrency to the treatment of branch taxes of a U.S. taxpayerunder Notice 89-74, infra. See TD 8400.(iii)Rev. Proc. 99-32 provides for an election to treat theamount of a § 482 adjustment as an account payableestablished as of the last day of the taxable year to whichthe § 482 adjustment relates. As indebtedness and accountreceivable, the Rev. Proc. 99-32 would appear to be a § 988transaction to the extent it is denominated in a nonfunctionalcurrency under Rev. Proc. 99-32 rules.See FSA 200139008. Section 4.01(3) of the Rev.Procedure provides rules for determining the denominationcurrency of the Rev. Proc. 99-32 account, which willgenerally be the U.S. dollar.By contrast, note that the § 367(d) regulations permittingthe taxpayer to establish a similar account receivable toreflect a deemed royalty inclusion do not specify thedenomination currency of the account. See Reg.§ 1.367(d)-1T(g)(1).(d)Foreign currency financial instruments, such as forward contracts,futures, notional principal contracts, etc. that relate to a foreigncurrency exposure. § 988(c)(1)(B)(iii).(i)(ii)Sec. 988 transactions include forward contracts, regulatedfutures contracts, options, or similar financial instruments ifthe underlying property to which the contract relates is anon-functional currency. See Reg. 1.988-1(a)(2)(iii)(A).Financial instruments that provide for payments in a nonfunctionalcurrency, but relate to some other underlyingproperty, are not Section 988 transactions. See, e.g., Reg.§ 1.988-1(a)(6), Example 11 (Yen-denominated equityindex option not a § 988 transaction). Note that all gain orloss from a foreign financial instrument is treated asexchange gain or loss. See § 988(b)(3). Thus, only10© 2013 William R. Skinner, Esq.Fenwick & West LLPwrskinner@fenwick.com