# Taxation of Foreign Currency



## Alltimegreat1 (Feb 25, 2015)

I am a US citizen living abroad (Germany). I am considering opening a sub-account to my regular Euros-denominated German bank account. The sub-account would be in a different currency like Swiss Francs (not USD).

If I hold the funds in the Swiss Francs sub-account for a year or more, any gains against the Euro are not taxable by the German government.

But how would the IRS view this?

Thanks in advance for the help.


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## 255 (Sep 8, 2018)

Alltimegreat1 -- Currency gains/losses are treated as "ordinary income," like interest, under Section 988, of the tax code. Holding periods do not come into play. On the plus side, there is no "capital loss" limitations ($3,000.00 annually.)

You can "choose" to treat FX transactions as "futures" under Section 1256, of the tax code. If you choose this election, your gains/losses will be treated to a favorable 60/40, long term/short term, capital gains split, irrespective of time held. Cheers, 255


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## Alltimegreat1 (Feb 25, 2015)

255 said:


> Alltimegreat1 -- Currency gains/losses are treated as "ordinary income," like interest, under Section 988, of the tax code. Holding periods do not come into play. On the plus side, there is no "capital loss" limitations ($3,000.00 annually.)
> 
> You can "choose" to treat FX transactions as "futures" under Section 1256, of the tax code. If you choose this election, your gains/losses will be treated to a favorable 60/40, long term/short term, capital gains split, irrespective of time held. Cheers, 255


Thanks a lot for the tip. What I'm really asking here is whether this would constitute a foreign exchange gain/loss or a transaction at all. It would simply be part of my own personal (multicurrency) bank account.

"A 988 transaction is a transaction described in section 988(c)(1) of the Internal Revenue Code in the United States of America. This transaction occurs when a taxpayer enters into or acquires any debt instrument, forward contract, futures contract, option, or similar financial instrument held in a non-functional currency."





988 transaction - Wikipedia







en.wikipedia.org





988 seems that it would not apply since this would merely be money sitting in my own personal bank account. Not a debt instrument, contract, etc.

The same applies for 1256..

"A Section 1256 contract is a type of investment defined by the Internal Revenue Code (IRC) as a regulated futures contract, foreign currency contract, non-equity option, dealer equity option, or dealer securities futures contract. What makes a Section 1256 contract unique is that each contract held by a taxpayer at the end of the tax year is treated as if it was sold for its fair market value, and gains or losses are treated as either short-term or long-term capital gains."








Section 1256 Contract


A Section 1256 contract is a type of investment defined by the IRC as a regulated futures contract, foreign currency contract, non-equity option, dealer equity option, or dealer securities futures contract.




www.investopedia.com


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## 255 (Sep 8, 2018)

Alltimegreat1 -- Believe me, it applies. I was audited over the exact same issue in 1980. Anytime you buy something or sell something, whether widgets, currency, stocks, crypto, real property -- the IRS wants their pound of flesh. You are required to keep "adequate" records. Since you are living overseas and have these in a foreign bank, as long as you are under the FATCA reporting requirements, you could probably "skate by," without reporting. Just don't claim any losses -- that's what I did, putting it "on their radar." In my case, my reporting was accurate, but the IRS still didn't like it. I went to "Tax Court," and won. The Judge admonished the IRS for not following their own rules! Cheers, 255


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## Alltimegreat1 (Feb 25, 2015)

255 said:


> Alltimegreat1 -- Believe me, it applies. I was audited over the exact same issue in 1980. Anytime you buy something or sell something, whether widgets, currency, stocks, crypto, real property -- the IRS wants their pound of flesh. You are required to keep "adequate" records. Since you are living overseas and have these in a foreign bank, as long as you are under the FATCA reporting requirements, you could probably "skate by," without reporting. Just don't claim any losses -- that's what I did, putting it "on their radar." In my case, my reporting was accurate, but the IRS still didn't like it. I went to "Tax Court," and won. The Judge admonished the IRS for not following their own rules! Cheers, 255


Thanks for clarifying and congrats for beating the IRS in court.

So any currency appreciation would be reportable to the IRS upon converting from Francs back into Euros?

I'm just wondering where the IRS draws the line between what's a taxable foreign currency transaction and what's simply a personal transfer of money to oneself.

Wiring oneself money from a US bank account to the person's own bank account abroad is in itself not a taxable foreign currency transaction.


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## 255 (Sep 8, 2018)

Alltimegreat1 -- You are right, there is no "taxable event," when you transfer USD to another currency. The taxable event occurs, when you then use that money to buy something else, even another currency.

So, your example, if you transfer USD to a foreign bank and exchange your USD for EUR -- you've "opened" a position in the EUR. If you then, subsequently close your EUR position ("realizing" your gain/loss,) you have now created a reportable transaction (closing the EUR position,) and you have opened a new CHF position (that's not reportable, until you ultimately "close" your position and "realize" your gain/loss.) Of course for all these transactions, you'll have to convert to USD for IRS reporting.

This is what "professional" currency traders did in the '70s (I had a friend that made bank with accounts in the major European countries, of course this was before the EUR and the proliferation of platforms with access to the "Interbank Foreign Exchange Market.")

So, yes, technically, any foreign currency transaction is "reportable." There is "no line to be drawn," all transactions are reportable.

Of course, on a small scale, converting USD to EUR, CHF or anything else, I'd say most folks don't bother! I certainly didn't, when I lived in half a dozen overseas countries and travelled to many more.

I did report, both gains and losses, when I "traded" currencies, on a large scale (and of course the loss I reported in 1980, which I mentioned earlier.) My friend that I mentioned earlier, conducted his "foreign exchange," as a business so he could deduct long distance telephone calls from the U.S. to Italy, Germany, France, Switzerland, etc. (this was before computers, he made all his transactions by telephone, transferring currency from a bank in one country to a bank in another (he made over 5 times his salary, trading currencies, compared to his "day job.")


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## Alltimegreat1 (Feb 25, 2015)

255 said:


> Alltimegreat1 -- You are right, there is no "taxable event," when you transfer USD to another currency. The taxable event occurs, when you then use that money to buy something else, even another currency.
> 
> So, your example, if you transfer USD to a foreign bank and exchange your USD for EUR -- you've "opened" a position in the EUR. If you then, subsequently close your EUR position ("realizing" your gain/loss,) you have now created a reportable transaction (closing the EUR position,) and you have opened a new CHF position (that's not reportable, until you ultimately "close" your position and "realize" your gain/loss.) Of course for all these transactions, you'll have to convert to USD for IRS reporting.
> 
> ...


Wow. You really have a wealth of experience and knowledge on this topic. Being a US citizen can very frustrating, as we all know.

Let's say I wire Dollars from my US bank account to Euros in my German bank account. Then I convert the Euros to Swiss Francs the next day (as a sub-account of my normal German bank account).

Then, after a few years, let's say the Euro depreciates sharply against the Dollar and the Franc, but the Dollar vs. Franc exchange rate remains virtually unchanged.

If I convert the Francs back to (a much higher amount) of Euros, would I be liable for capital gains taxes in the US?


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## 255 (Sep 8, 2018)

Alltimegreat1 -- First off, remember in my first post, FX gains/losses are treated as "ordinary income," not capital gains (unless you elect to treat them as 1256, then you'd take advantage of the 60/40 split.)

In your hypothetical, and assuming the EUR/USD movement was nil, when you converted your EUR position into CHF, so zero reportable gain/loss on your initial transaction -- also in your example, the USD/CHF exchange rate is exactly the same, when you "purchased," CHF, as when you "sold" CHF, exchanging it for EUR, then there also would be zero gain. Remember, you'll have an "opening" and closing" transaction, on every currency transaction, converted into USD for U.S. tax purposes.

Depending on the amount of money involved, it might make sense to do the currency exchange on an FX trading platform or perhaps a broker that handles currency (like Interactive Brokers, IB.) The exchange rate "spreads" can be crazy wide at banks, vice near "spot" rates at a good broker. IB (or another FX firms) might have 1 to 5 pip spreads on the majors (EUR/USD, USD/JPY, GBP/USD, AUD/USD, USD/CHF, and USD/CAD) while the spread at a bank might be a couple of hundred pips. In fact you could save yourself some money by just converting your USD directly into CHF, right off -- you could still convert your CHF into EUR, "down the road," if that's your desire. Cheers, 255


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## Alltimegreat1 (Feb 25, 2015)

255 said:


> Alltimegreat1 -- First off, remember in my first post, FX gains/losses are treated as "ordinary income," not capital gains (unless you elect to treat them as 1256, then you'd take advantage of the 60/40 split.)
> 
> In your hypothetical, and assuming the EUR/USD movement was nil, when you converted your EUR position into CHF, so zero reportable gain/loss on your initial transaction -- also in your example, the USD/CHF exchange rate is exactly the same, when you "purchased," CHF, as when you "sold" CHF, exchanging it for EUR, then there also would be zero gain. Remember, you'll have an "opening" and closing" transaction, on every currency transaction, converted into USD for U.S. tax purposes.
> 
> Depending on the amount of money involved, it might make sense to do the currency exchange on an FX trading platform or perhaps a broker that handles currency (like Interactive Brokers, IB.) The exchange rate "spreads" can be crazy wide at banks, vice near "spot" rates at a good broker. IB (or another FX firms) might have 1 to 5 pip spreads on the majors (EUR/USD, USD/JPY, GBP/USD, AUD/USD, USD/CHF, and USD/CAD) while the spread at a bank might be a couple of hundred pips. In fact you could save yourself some money by just converting your USD directly into CHF, right off -- you could still convert your CHF into EUR, "down the road," if that's your desire. Cheers, 255


Excellent info and insight. I'm very grateful for your help. One more question...

What if I renounce US citizenship before closing the CHF position and my net worth is under $2 million?


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## 255 (Sep 8, 2018)

Alltimegreat1 -- I assume the $2 million you're talking about is one of the thresholds for determining whether you are an "covered expatriate" for U.S. income tax purposes Expatriation Tax | Internal Revenue Service (irs.gov) . As you can see in this post the $2 million net worth threshold is one of three that determine, if you are a covered expatriate -- and being subject to those rules.

If you renounce and you are not considered a covered expatriate -- nothing happens. Your net worth includes your CHF position and if you close your position, after you give up your U.S. citizenship, you would not have any U.S. reporting obligations. Cheers, 255


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## Alltimegreat1 (Feb 25, 2015)

255 said:


> Alltimegreat1 -- I assume the $2 million you're talking about is one of the thresholds for determining whether you are an "covered expatriate" for U.S. income tax purposes Expatriation Tax | Internal Revenue Service (irs.gov) . As you can see in this post the $2 million net worth threshold is one of three that determine, if you are a covered expatriate -- and being subject to those rules.
> 
> If you renounce and you are not considered a covered expatriate -- nothing happens. Your net worth includes your CHF position and if you close your position, after you give up your U.S. citizenship, you would not have any U.S. reporting obligations. Cheers, 255


Do I understand correctly that non-covered expatriates will not owe any US tax on unrealized gains of any sort upon renouncing, and they also will not owe any US tax (or have any US reporting obligation) when closing the positions later on after renouncing?


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## 255 (Sep 8, 2018)

Alltimegreat1 -- Yes to both questions. Cheers, 255


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