Do I understand correctly. I go to Foreignland with $100 in my pocket, and buy Foreignmoney. The Foreignland economy does well, and their currency gets stronger. I then take this Foreignmony and buy $150. I have no capital gain.
I(f I were instead buy 100 Foreignmoney worth of Foreignstock. Later, when I sold the stock the price was still 100 in Foreignmoney. But I now buy $150 with the Foreigmoney. Now I have a capital gain of $50.
Here's what the IRS has to say:
"The functional currency of US taxpayers is generally the US dollar.
If a US taxpayer engages in a transaction denominated in
nonfunctional currency, it will most likely result in a foreign
currency exchange gain or loss, separate from the underlying
"A foreign currency exchange gain or loss is the gain or loss
realized due to the change in exchange rates between the booking date
and the payment date of a transaction involving an asset or liability
denominated in a nonfunctional currency. The gain or loss from
disposing of nonfunctional currency is determined by the change in
exchange rates between the date the nonfunctional currency was
acquired and the date of disposition.
"Prior to the enactment of Internal Revenue Code (IRC) Section 988
under The Tax Reform Act of 1986, the treatment of foreign currency
transactions was inconsistent. Determining the timing, amount,
character, and source of the gains and losses that resulted from
transactions in foreign currencies relied on court decisions and
administrative rulings. These decisions were usually based on
specific information relative to the transaction at hand.
"IRC 988 provides guidelines for the treatment of certain
transactions denominated in a nonfunctional currency. These
transactions include the acquisition of a debt instrument, or
becoming the obligor of a debt instrument, accruing (or otherwise
taking into account) any item of expense or income which will be paid
or received after the accrual, entering into or acquiring any forward
contract, futures contract, option, or similar financial instrument,
and the disposition of nonfunctional currency. Definitions of
specific transactions subject to IRC 988 will be the subject of a
separate IPS unit.
"Under IRC 988(a)(1)(A), the foreign currency exchange gain or loss
attributable to a Section 988 transaction is generally ordinary
income. However, there are special rules, exceptions and elections
which change the character of a Section 988 transaction; please see
the Detailed Explanation of the Concept for examples of these rules,
exceptions and elections. The foreign currency exchange gain or loss
is separate from any gain or loss on the underlying Section 988
transaction. IRC 988 is principally a source and character provision.
"While IRC 988 addresses the 1) character, 2) source, 3) timing and
4) amount of gains and losses resulting from foreign currency
transactions, this IPS unit will address only the character of
foreign currency exchange gain or loss resulting from a Section 988
transaction. In general, a Section 988 transaction will result in a
foreign currency exchange gain or loss that is ordinary. The
remaining items related to gains and losses from transactions in
foreign currency will be covered in other IPS units."
You can read the entire document here:
First example: assuming the transaction was personal use (not an
investment), then any exchange loss is not deductible, Any exchange gain
that is greater than $199 per transaction would be ordinary gain. Any
gain under $200 per transaction is not reportable. In your example, you
have no gain of any kind to report.
Second example: you had a foreign investment account and bought and sold
stock at the same price in foreign currency. But, as a US citizen or US
resident those transactions are reported in US currency. You have a
capital gain (long or short based on holding period) of $50 in your