loss from normal business receipts and payments, ordinary income or loss may be realized from certain transactions on amounts the taxpayer is entitled to receive (or is required to pay), denominated in terms of a nonfunctional currency, or determined by reference to the value of one or more nonfunctional currencies. The transactions to which this treatment applies are the acquisition of a debt instrument or becoming an obligor under a debt instrument, accruing any item of expense or gross income or receipts that is to be paid or received after the date accrued, or entering into or acquiring any forward contract, futures contract, option, or similar financial instrument if such instrument is not marked to market at the close of the taxable year. Translation gains or losses may arise if foreign currency is held as an investment or if a foreign exchange contract is entered into (a) hedging foreign currency-denominated financial assets, anticipated income, liabilities, or expenses; (b) hedging the taxpayer’s stock in a CFC; or (c) hedging an accounting exposure arising under generally accepted accounting practices on a consolidated financial statement.
QBU and functional currency
Section 985 states that, unless it is otherwise provided in the regulations, all determinations for income tax purposes must be made in the taxpayer’s functional currency. A functional currency is the currency of the economic environment in which a significant part of a QBU’s activities are conducted. If the QBU’s activities are primarily conducted in U.S. dollars, the unit’s functional currency is the U.S. dollar. To the extent provided by regulations, a taxpayer may also elect to use the dollar as the functional currency of a QBU if that unit keeps its books in U.S. dollars or uses a method of accounting that approximates a separate transactions method.
QBU
A QBU is any separate, clearly identified unit of a trade or business of a taxpayer that maintains separate books and records. A corporation is a QBU. An individual is not a QBU. The activities of an individual, however, will qualify as a QBU if these activities constitute a trade or business and a complete set of books and records is maintained with respect to the activities. A partnership, trust, or estate is a QBU of a partner or beneficiary.
Determining whether activities constitute a trade or business depends on all the facts and circumstances, but in general, a trade or business is a specific unified group of activities that constitute an independent enterprise carried on for profit. For individuals, the same type of activities apply to determine whether a trade or business exists, except that an activity that gives rise to business expense deductions is not considered a trade or business, nor are activities of an individual as an employee considered to constitute a trade or business. See examples in Treasury Regulation 1.987-1.
The Sessions Group is a U.S. company and maintains headquarters in Delaware. Sessions opens a temporary office in London as part of an assessment of the European market. The London office is used by U.S. executives to support marketing activities while the U.S. executives are in London for brief periods. No sales are transacted, and Sessions closes the London office after nine months. Sessions deducts the London office start-up and closing expenses on its U.S. return. Sessions’ London office is not a QBU.
Assume, in example 2-2, that several sales are closed in the United Kingdom and that the Sessions Group London office hires a permanent full-time employee to fulfill post-sale service requirements. Arguably, the presence of a full-time employee creates a taxable presence under United Kingdom tax law and, if so, the Sessions’ London office is a QBU.
A trade or business is a unified group of activities that constitutes an independent economic enterprise carried on for profit. A trade or business must ordinarily include every operation, which forms a part of, or a step in, a process by which an enterprise may earn income or profit. A vertical, functional or geographic division of the same trade or business is itself a trade or business if it is capable of producing income independently.
Assume, in example 2-3, that the Sessions Group manufactures goods in the United States and sells the goods to European customers through its London sales office. The London sales office may be a trade or business separate from the manufacturing operation because the sales office could be carried on as an independent economic enterprise.
Activities at a particular location may be a trade or business separate from identical activities at another location.
Assume, in example 2-4, that the Sessions Group also maintains sales offices in Paris and Frankfurt in addition to the London sales office. The London, Frankfurt, and Paris sales offices may be three separate trades or businesses.
Merely ancillary activities are not a trade or business. (Treasury Regulation 1.989(a)-1(e), example 3).
Assume, in example 2-5, that the Sessions Group makes preliminary communications with potential Japanese customers from its headquarters in Delaware. Sessions needs to get documents to the potential Japanese customers to facilitate discussions. Sessions hires a contractor in Japan to deliver the documents. The contractor’s activities in Japan are not a trade or business because the activities are ancillary to the communications originating in the United States.
Assume, in example 2-6, that Sessions creates a Japanese subsidiary to carry on the courier activities. The subsidiary is a QBU because a corporation, whether or not it has a trade or business, is a QBU.
An individual is not a QBU, but an individual may have a QBU including a trade or business for which separate records are kept. Section 989(a).
U.S. citizen A distributes goods in Spain produced by various U.S. manufacturers. A’s activities in Spain are a trade or business and therefore a QBU if separate records are kept for the activities.
