Popular Post ExecConsult Posted October 26, 2010 Popular Post Report Share Posted October 26, 2010 (edited) Hi, My name is Mark. I'm an estate planning attorney who is fairly new to the forums. I've been reading lots of topics and posts on Capital Gains and correcting people where I can. Instead of repeating myself over and over again on other people's topics, I decided to spell it all out here. Hopefully this will help some people. First I want to say that if anyone has been confused by the jumble of information out there it is understandable. I even read one post where an individual contacted the IRS and was given the wrong answer by the IRS employee. Having the written statement from the IRS would probably be enough to avoid being accused of fraud on your taxes, but it would not allow you to escape the tax, penalties, and interest. It is much better to know what you are dealing with and that way you can plan for it. (You can also plan on how to mitigate or avoid it. ) I don't want you to get the wrong idea and think that all attorneys or CPAs should know this stuff right off the tops of their heads. I sure didn't. I had to go digging. This is what I found: Section 988 OR Section 1256? The Internal Revenue Code (IRC) deals with foreign currency exchange profits and losses under two different Sections; 988 and 1256. The primary section, 988, deals with gains and losses as ordinary income (with one small exception). However, foreign currency investors are often able to opt out of Section 988 and have their investments treated as Capital Gains under Section 1256. Unfortunately, Section 1256 only applies to contracts (i.e. futures contracts and forward contracts) for regularly traded foreign currency. Even if Dinar were a regularly traded currency, I have not seen anyone on DinarVets saying, "I just purchased a spot contract on Dinar this morning. Go RV!!" What I see instead is that people have purchased Dinar either in an account or the physical currency and will hold that currency as long as they want to hold it. Therefore, even if Dinar were a regularly traded currency (which it is not), Section 1256 still does not apply. Therefore you are stuck under Section 988. The Confusion of Section 988 Many people have looked at IRS Publication 525, Pg. 33 to justify their assertions that your Dinar RV income should be treated as Capital Gains. It states: Foreign currency transactions. If you have a gain on a personal foreign currency transac- tion because of changes in exchange rates, you do not have to include that gain in your income unless it is more than $200. If the gain is more than $200, report it as capital gain. This sounds pretty cut and dried. However, you should never underestimate the confusion of the IRS or its code, the IRC. The above quote refers to a "personal . . . transaction." You might be surprised to know that what you have done is not a "personal transaction" under the language of Section 988. IRS Pub. 525 did not anticipated a situation where masses of individuals would be investing in foreign currency with hopes of obscene profits. This language is intended for the traveler who went to New Zealand on "holiday" and when they returned and exchanged back to dollars, they had a little bit of gain or loss. That is not your situation. Breaking it Down I figure the best way to make everything clear is to show you the part of Section 988 dealing with "Personal Transactions." and then explain it. Section 988 (e) Application to individuals (1) In general The preceding provisions of this section shall not apply to any section 988 transaction entered into by an individual which is a personal transaction. [So far it looks pretty good. This means it will not be ordinary income. It will be treated like any other asset and be Capital Gains.] (2) Exclusion for certain personal transactions If-- (A ) The preceding provisions of this section shall not apply to any transaction, and (B ) such transaction is a personal transaction, no gain shall be recognized for purposes of this subtitle by reason of changes in exchange rates after such currency was acquired by such individual and before such disposition. The preceding sentence shall not apply if the gain which would otherwise be recognized on the transaction exceeds $200. [This means that if the gain is lower than $200 you don't even claim it. However, if you exceed $200 then you are back to my previous statement. Still looks pretty good. This is where the information for IRS Pub 525 comes from. Unfortunately this is where most people stop.] (3) Personal transactions For purposes of this subsection, the term "personal transaction" means [finally a definition] any transaction entered into by an individual, except that such term shall not include any transaction to the extent that expenses properly allocable to such transaction meet the requirements of-- (A ) section 162 (other than traveling expenses described in subsection (a)(2) thereof), or (B ) section 212 (other than that part of section 212 dealing with expenses incurred in connection with taxes). [and we still don't know what it "shall not include"] You can see how this can get confusing. To really look at it, we should probably go to Section 162 and Section 212, but I'm going to skip 162 and tell you what 212 says: Section 212. Expenses for production of income In the case of an individual, there shall be allowed as a deduction all the ordinary and necessary expenses paid or incurred during the taxable year-- (1) for the production of income (2) for the management, conservation, or maintenance or property held for the production of income; or (3) in connection with the determination, collection, or refund of any tax. Each Dinar purchase had expenses associated with it such as transaction fees, transportation fees, etc.... That is how the dealers stay in business. Since there WERE expenses related to the purchase of Dinar that "meet the requirements" of Section 212(1) and/or Section 212(2), the income associated with those transactions are specifically EXCLUDED from the definition of "personal transaction" under Section 988. Section 988 (e) "Application to individuals" - does not apply. Since (e) basically says that the provisions of Section 988 don't apply and now you can't use (e), you are back in a situation where the provisions of Section 988 DO apply. That means that you have ORDINARY INCOME. It even goes as far as to say that it should be looked at as "interest income." As I said before, I am an "Estate Planning" attorney. I am not a tax attorney. I am tax trained with my undergrad being in accounting, receiving a certificate in tax from my law school, and working in a field where I am constantly looking at ways to help people save taxes. However, I am not above understanding that I can be wrong sometimes. If any of you have a brilliant tax attorney who has a way out of what I have just described, I'm sure we would all LOVE to hear about it. Until then, be safe with the IRS - it is ordinary income under Section 988. Best of Blessings, Mark Edited October 26, 2010 by ExecConsult 44 1 Link to comment Share on other sites More sharing options...
Frank61 Posted October 26, 2010 Report Share Posted October 26, 2010 Thanks for the info Mark, great post !! Link to comment Share on other sites More sharing options...
dlbfilm Posted October 26, 2010 Report Share Posted October 26, 2010 Link to comment Share on other sites More sharing options...
icutiewatcher Posted October 26, 2010 Report Share Posted October 26, 2010 Thank you, Mark! Link to comment Share on other sites More sharing options...
PickinDaisies Posted October 26, 2010 Report Share Posted October 26, 2010 wow thanks for making it easier for us to understand. most of our knowledge is from word of mouth and its good to see that mouth broken down. bravo. Link to comment Share on other sites More sharing options...
k98nights Posted October 26, 2010 Report Share Posted October 26, 2010 Thank you for this informative post!!! Link to comment Share on other sites More sharing options...
ReturnToGod Posted October 26, 2010 Report Share Posted October 26, 2010 Thanks for the post! Very helpful information! Link to comment Share on other sites More sharing options...
bluejay Posted October 26, 2010 Report Share Posted October 26, 2010 Hi Mark, Thanks for that, I just get lost after the first example, for me I need to know what % I will be taxed. Am I safe thinking 50% will go to Tax, I know it's probably not that simple, it's designed that way. But I can say I'm considering to leave the US for a couple of years if the tax due is much greater than 50%. Link to comment Share on other sites More sharing options...
is it Monday yet Posted October 26, 2010 Report Share Posted October 26, 2010 Oh Boy........ can see the writing on the wall.... not a pretty picture.... I think we are gonna need some help....... Link to comment Share on other sites More sharing options...
Dinerry Posted October 26, 2010 Report Share Posted October 26, 2010 Dive into it Mark. Keep posting detailed info, feelings, knowledge, comparisons. Whatever. Please, your HELP is good! This is the new direction and main thrust I feel. Now that some day the RV, will actually be yesterday's news. YES to ALL SHARING ADVICE, NEWS, and RULES OF COMMON SENSE. I give you a + 1 ... cuz this TOPIC will be where I'll be spending more and more time. Once I pick up my jaw from the floor. Bless you! 2 Link to comment Share on other sites More sharing options...
bahtman Posted October 26, 2010 Report Share Posted October 26, 2010 Thanks Mark, I don't disagree with any of your statements above and I appreciate you putting it all together. However, I'm not sure that our "investment" qualifies as a "Section 988 transaction". § 988. Treatment of certain foreign currency transactions (a) General rule Notwithstanding any other provision of this chapter— (1) Treatment as ordinary income or loss <a name="a_1_A"> (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). If our "investment" is not a section 988 transaction, then it would strictly be a normal investment which would fall under Capital Gains. Section 988 What Does Section 988 Mean? A financial transaction involving a capital loss or gain on an investment held in a foreign currency. A Section 988 transaction relates to IRS Section 988, which was applied to all tax years after December 31, 1986. Per IRS rules, most gains from foreign currency transactions are to be treated as ordinary income, whether earned by an individual or a corporation. Gains and losses from these transactions are typically viewed outside of any gain or loss due to exchange rate changes between the U.S. dollar and the foreign currency. 988 Transactions include those surrounding holders of foreign bonds (who will receive interest and principle in a domestically "nonfunctional" currency), foreign currency futures or other derivatives, as well as accrued expenses or receipts in a foreign currency. My link My view on this as a NON expert is that: Section 988 transactions are gains or losses on investments HELD in a foreign currency or gains or losses in foreign currency futures or bonds. NOT where the cash currency is the investment. Not saying I'm right, just food for thought as a counter to your thoughts. 2 Link to comment Share on other sites More sharing options...
okane Posted October 26, 2010 Report Share Posted October 26, 2010 Thank you for your time and effort on this topic. I'm sure that this weighs almost as heavy on most peoples minds as the RV. Thank you for your time and effort on this topic. I'm sure that this weighs almost as heavy on most peoples minds as the RV. Link to comment Share on other sites More sharing options...
ExecConsult Posted October 26, 2010 Author Report Share Posted October 26, 2010 Thanks Mark, I don't disagree with any of your statements above and I appreciate you putting it all together. However, I'm not sure that our "investment" qualifies as a "Section 988 transaction". § 988. Treatment of certain foreign currency transactions (a) General rule Notwithstanding any other provision of this chapter— (1) Treatment as ordinary income or loss <a name="a_1_A"> (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). If our "investment" is not a section 988 transaction, then it would strictly be a normal investment which would fall under Capital Gains. Section 988 What Does Section 988 Mean? A financial transaction involving a capital loss or gain on an investment held in a foreign currency. A Section 988 transaction relates to IRS Section 988, which was applied to all tax years after December 31, 1986. Per IRS rules, most gains from foreign currency transactions are to be treated as ordinary income, whether earned by an individual or a corporation. Gains and losses from these transactions are typically viewed outside of any gain or loss due to exchange rate changes between the U.S. dollar and the foreign currency. 988 Transactions include those surrounding holders of foreign bonds (who will receive interest and principle in a domestically "nonfunctional" currency), foreign currency futures or other derivatives, as well as accrued expenses or receipts in a foreign currency. My link My view on this as a NON expert is that: Section 988 transactions are gains or losses on investments HELD in a foreign currency or gains or losses in foreign currency futures or bonds. NOT where the cash currency is the investment. Not saying I'm right, just food for thought as a counter to your thoughts. That is a good point. I'm glad you brought it up. Unfortunately, you are pulling your quote from some guy out there who wrote it for the general public. It is not detailed enough. Allow me to shed some light on the subject from Section 988 itself: (Note - nonfunctional currency refers to currency that can not be used as such in the US i.e. Not US currency) Section 988©(1) © 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) any gain or loss from such transaction shall be treated as foreign currency gain or loss (as the case may be). (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. Note that it that disposition of a nonfunctional currency (your Dinar) "shall be treated as a section 988 transaction." Keep Digging, Best of Blessings, Mark 2 Link to comment Share on other sites More sharing options...
TBnhispower Posted October 26, 2010 Report Share Posted October 26, 2010 BIG BUMMER! Although, this is exactly what I thought. Boy, am I the only one who thinks it is just wrong for our government to take half our money (or more)? We're sure getting close to being taxed as much as Western European nations, with less perks. 2 Link to comment Share on other sites More sharing options...
ds2 Posted October 26, 2010 Report Share Posted October 26, 2010 so to put it in simpler terms do we pay capital gains tax and how much %? that is the $1,000,00 dinar question! Link to comment Share on other sites More sharing options...
grimreaper Posted October 26, 2010 Report Share Posted October 26, 2010 From what I got out of this post is that we will pay ordinary income taxes. Link to comment Share on other sites More sharing options...
A. Zuccaro Posted October 26, 2010 Report Share Posted October 26, 2010 Thanks Mark! Will copy and keep this! Ann Link to comment Share on other sites More sharing options...
Sonny Posted October 26, 2010 Report Share Posted October 26, 2010 Thanks Mark for the post. Link to comment Share on other sites More sharing options...
jocko129 Posted October 26, 2010 Report Share Posted October 26, 2010 AS I GATHER IF LESS THAN ONE YEAR ON INVESTMENT YOU PAY 35% IF MORE THAN A YEAR YOU PAY 15%, BROTHER I AM GLAD I FALL ON THE 1 YEAR PLUS CATEGORY, THANKS Link to comment Share on other sites More sharing options...
bahtman Posted October 26, 2010 Report Share Posted October 26, 2010 That is a good point. I'm glad you brought it up. Unfortunately, you are pulling your quote from some guy out there who wrote it for the general public. It is not detailed enough. Allow me to shed some light on the subject from Section 988 itself: (Note - nonfunctional currency refers to currency that can not be used as such in the US i.e. Not US currency) Section 988©(1) © 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) any gain or loss from such transaction shall be treated as foreign currency gain or loss (as the case may be). (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. Note that it that disposition of a nonfunctional currency (your Dinar) "shall be treated as a section 988 transaction." Keep Digging, Best of Blessings, Mark Mark, In order for you to be correct, our investment has to fit the definition of a "Section 988 transaction". Here is the definition contained in Section 988: 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. I have highlighted in "red" the important parts. I don't believe "our investment" falls into any of the 3 above situations. All the investments that Section 988 continually refers to are forward contracts, futures contracts, options, bonds etc. Which makes sense, because that's why Section 988 was written. It was not written for direct purchase of foreign currency, let alone purchase of a foreign currency that is not recognized by the world at large. I'm not saying that it won't end up being treated that way by the IRS, but I don't believe it fits the definition of Section 988. Time will tell. The camps seem to be split. Though I will say more seem to be agreeing with your view recently. Here's hoping for both of us that I'm right. We'll save a few bucks that way. 3 Link to comment Share on other sites More sharing options...
IraqiVet05-07 Posted October 26, 2010 Report Share Posted October 26, 2010 Mark, Your post seems to hinge on the fact you paid fees or what not when getting your dinar from a dealer.... However what about us veterans that did not pay fees and exchanged dinar in Iraq/Kuwait and did not pay any fees it was an actual currency exchange without fees. That would make it a personal transaction and would put us into the Captail Gains category CORRECT? Iraqi Vet05-07 1 Link to comment Share on other sites More sharing options...
dflake Posted October 27, 2010 Report Share Posted October 27, 2010 AS I GATHER IF LESS THAN ONE YEAR ON INVESTMENT YOU PAY 35% IF MORE THAN A YEAR YOU PAY 15%, BROTHER I AM GLAD I FALL ON THE 1 YEAR PLUS CATEGORY, THANKS This is what I also thought, based on Publication 525. Out of curiosity I completed a 2009 tax return using information as if I had completed my 2009 tax return with a Long Term Cap Gain (Schedule D) from the sale of Dinar. The result was that the Alternative Minimum Tax (AMT) kicked in and my 15% Capital Gains rate suddenly went to an effective 28% due to the AMT. But again, the big question is, How do you treat the income, Capital Gains, Ordinary Income, Investment Income etc. The second item of my curiosity is this. It is my understanding that a very similar scenario took place when Kuwait revalued their Dinar some while back, creating overnight Millionaires under very similar circumstances. Can anyone shed light on how the IRS handled this scenario then? I would think that would be the Precedence. HELP! Link to comment Share on other sites More sharing options...
tsw8098 Posted October 27, 2010 Report Share Posted October 27, 2010 Mark, I got your message but could not send you one back , You did answer my question. Thank you very much. Also Thank you for helping so many people on DV. May God Bless you. Link to comment Share on other sites More sharing options...
ExecConsult Posted October 27, 2010 Author Report Share Posted October 27, 2010 (edited) Mark, In order for you to be correct, our investment has to fit the definition of a "Section 988 transaction". Here is the definition contained in Section 988: 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. I have highlighted in "red" the important parts. I don't believe "our investment" falls into any of the 3 above situations. All the investments that Section 988 continually refers to are forward contracts, futures contracts, options, bonds etc. Which makes sense, because that's why Section 988 was written. It was not written for direct purchase of foreign currency, let alone purchase of a foreign currency that is not recognized by the world at large. I'm not saying that it won't end up being treated that way by the IRS, but I don't believe it fits the definition of Section 988. Time will tell. The camps seem to be split. Though I will say more seem to be agreeing with your view recently. Here's hoping for both of us that I'm right. We'll save a few bucks that way. bahtman You are right on the money. In order for me to be correct, it must be a "section 988 transaction." You are also correct that section 988 is constantly referring to foreign currency contracts. You have also quoted the "In general" definition correctly. To really get to the correct analysis, you must understand that under legal construction, when there is a specific instruction it supersedes the general instruction. If there weren't "special rules" applying to the cash out of the Dinar (disposition of foreign currency), your analysis would be correct. However, right after your quote stops, mine starts: Section 988(c )(1) (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 . . . . I know you REALLY, REALLY want it to be capital gains, but it's not. . . Unless . . . There may be one case where you would be correct. I didn't want to get into it for fear of the "can of worms" it would open, but one of the people who posts later has already mentioned it, so I am going to address it there. What if it was a gift and had no expenses associated that would qualify for Section 212 deductions? See my response to this topic later. Best of Blessings, Mark Edited October 27, 2010 by ExecConsult 2 Link to comment Share on other sites More sharing options...
gjames_54 Posted October 27, 2010 Report Share Posted October 27, 2010 Simple solution for the ones that are looking to pay as much taxes as possible (Iraq or Kuwait soldiers/contractors) Just tell the H&R Tax guy that you want to pay any and all taxes that they THINK THAT YOU NEED TO PAY and write them a check!! If you are not willing to do that, than stop with the ridiculous questions...Question...Do you just sit around all day and think of dumb questions??? 1 12 Link to comment Share on other sites More sharing options...
Recommended Posts