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Section 987 Regulations: Key Considerations

At long last (after 25 years), on Dec. 7, 2016, the Treasury and Internal Revenue Service (IRS) issued final and temporary regulations under Internal Revenue Code Section 987. These regulations replace the previously proposed 1991 regulations as well as the previously proposed 2006 regulations. These final regulations are largely based on the 2006 regulations with some significant adjustments.

The summary below provides an overview of the finalized Section 987 regulations. There will be additional information relating to these regulations over the coming months that will provide more detail regarding these finalized regulations.


Section 987 relates to foreign currency translation gain or loss as a result of income earned through a qualified business unit (QBU) that has a different functional currency from that of its tax owner. The previously issued proposed regulations garnered a lot of criticism and resulted in significant administrative burdens and uncertainty. As a result, many companies did not comply with the stated rules.


The final Section 987 regulations generally apply to Section 987 QBUs of an individual or C-Corporation. They do not apply to banks, insurance companies, leasing companies, finance coordination centers, regulated investments companies, trusts, real estate trusts, estates and S-Corporations and partnerships with unrelated partners. They do apply to partnerships in which all partners are related (aggregate partnerships). However, even though the regulations do not apply to some of the entities listed above, they are required to use a reasonable method to comply with Section 987.

A Section 987 QBU is a clearly identifiable separate trade or business with its own books and records. A Section 987 QBU does not include a corporation, partnership, or a holding company (but such entities may own Section 987 QBUs). Additionally, Section 987 QBUs cannot own other Section 987 QBUs.


Calendar year taxpayers will be required to adopt the final Section 987 regulations for the second taxable year beginning after December of 2016 (the date of publication in the National Register). Generally, that will be calendar year 2018 for calendar year taxpayers. Taxpayers may elect to adopt the regulations early for tax years beginning in 2017.


As a result of the uncertainty and noncompliance present in the tax base, the new regulations contain a “fresh start” transition method that is required to be used. This will essentially “wipe the slate clean” and allow companies a chance to restart their calculations. However, it also means that much of the existing unrealized Section 987 losses will never be tax effected (many of these losses could be quite large given the strength of the U.S. dollar).

The calculation itself is based on the foreign exchange exposure pool (FEEP) method that was first presented in the proposed 2006 regulations. The FEEP calculation can be complicated and is focused on a balance sheet approach. The owner of the Section 987 QBU must determine the net value of the QBU at the beginning and end of the year and needs to adjust for changes in value related to remittances and contributions, taxable income and other adjustments in order to try to isolate the foreign currency exchange gain or loss component.

This isolated foreign currency exchange gain or loss represents unrecognized Section 987 gain or loss that needs to be calculated and tracked annually. When a QBU has a remittance, (which is generally a transfer of property or cash to its owner and is tracked on an annual basis) a portion of the unrecognized pool must be recognized. When Section 987 gain or loss is recognized, it is considered ordinary gain or loss.

Next Steps

This post is the first in a series related to Section 987. Future posts will include a detailed analysis of the complicated steps related to the calculation itself as well as defining the various terms and nuances related to the calculation. The finalized regulations are more than 200 pages long and include complicated terminology and calculation steps. It is critical that anyone operating internationally evaluate their current structures to determine if additional conversations with their tax advisor are required.

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