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US Tax due on sale of UK home from currency fluctuation

US Tax due on sale of UK home from currency fluctuation

Old Feb 20th 2015, 8:48 pm
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Default US Tax due on sale of UK home from currency fluctuation

I have been informed by my tax adviser (big 4 paid by my company) that I would have to declare the 'profit' made on the currency fluctuation on my mortgage as earned income for this year.

This doesn't sound right to me, here's a breakdown of the calculation;

House purchased in 2007 for 200,000GBP with a mortgage of 150000GBP
(FX rate was $2 to 1GBP)

The theoretical calculations they are using are $400K purchase / $300K mortgage

House sale in 2014 for identicalamounts in GBP (sold for 200K/mortgage was still 150K)
FX rate was $1.6 to 1GBP

The theoretical calculations they are using are $320K sale / $240K mortgage

Therefore they state I made a "profit" of $60K from market fluctuations of the mortgage debt - based on the difference between the purchase in 2007 and the sale in 2014. This would be realized in the year of sale as 'earned income' and is not exempt under the $250K Capital Gains allowance.

This doesn't 'feel' right, as no actual profit was realized, and surely be a massive problem for anybody selling their main residence in UK and moving to US based on the FX differences over the last 5+ years?

(I'm a UK citizen, moved to USA on visa for the first time mid-2014)

Anybody got any comments?
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Old Feb 20th 2015, 10:30 pm
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Default Re: US Tax due on sale of UK home from currency fluctuation

They are applying 26 US Code 988. It also appears you sold the property after arriving in the US in 2014 making the repayment of a foreign currency mortgage subject to US tax considerations. Is this correct?

This has nothing to do with the purchase and sales price of the property.

The stance your tax preparers are taking is: you borrowed £150,000 (giving you $300,000) in 2007. It sounds as if it was an interest only mortgage. You repaid £150,000 in 2014, but in $US, you only repaid $240,000 with no payments made to reduce the principle amount borrowed. Therefore, in the eyes of the IRS under 988, you made a gain to your benefit of $60,000. For US tax purposes, the Pound Sterling is a non-functional currency; only the $US is the functional currency.

Welcome to the world of foreign currency exchange for US tax purposes. Your advisors are playing very tightly by the rules. Perhaps they are afraid of the IRS questioning the return.
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Old Feb 21st 2015, 2:17 am
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Default Re: US Tax due on sale of UK home from currency fluctuation

we have a very large tax bill due shortly because of this very same issue, we brought our house in 2001 before we had any concept of coming to america. came over in 2007. sold uk house 2014, large tax bill as EX rate isnt in our favor
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Old Feb 21st 2015, 9:42 am
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Default Re: US Tax due on sale of UK home from currency fluctuation

I see so many financial threads on the US board where the OP ends up with an "Oh, crap" moment ... so many unintended consequences, many of which could be avoided by doing certain things before you leave.

I really think this forum needs a separate sub-forum for financial issues as there are so many of them for UK-US expats. I recently joined the Yankee-UK (?) forum and they have one, though I think it is mainly tax-specific.

I suppose the one consolation is that if the OP actually did make a currency profit (which he did, correct?) that is better than having made a loss.

On the previous point, could someone apply for a tax credit based on a currency LOSS under the same law?

And are there similar principles under UK tax law, where buying/selling a house (or repaying the associated loan) leads to a currency loss?

(Sorry, OP, don't mean to derail the thread, but I think the answer would be helpful to other Brits in the US who are thinking of selling their UK home)
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Old Feb 21st 2015, 10:25 am
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Default Re: US Tax due on sale of UK home from currency fluctuation

I've finally found a site that explains 988 transactions and foreign currency mortgages:

Foreign mortgage exchange rate gain | Tax Advisory Partnership

and:

http://www.andrewmitchel.com/charts/rr_90_79.pdf
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Old Feb 21st 2015, 10:26 am
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Default Re: US Tax due on sale of UK home from currency fluctuation

Originally Posted by dunroving View Post
On the previous point, could someone apply for a tax credit based on a currency LOSS under the same law?
No.
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Old Feb 21st 2015, 10:32 am
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Default Re: US Tax due on sale of UK home from currency fluctuation

Originally Posted by dunroving View Post
I suppose the one consolation is that if the OP actually did make a currency profit (which he did, correct?) that is better than having made a loss.
The OP made a phantom currency gain. They did not make a tangible currency gain.

Edit: The OP would not have a problem if they had made a phantom currency loss, and they still would not have made a tangible foreign currency loss. As it is, they must pay tax on the phantom gain (with no tangible gain) at their normal rate. A phantom currency loss would have been soooo much better.

Last edited by theOAP; Feb 21st 2015 at 11:00 am.
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Old Feb 21st 2015, 1:57 pm
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Default Re: US Tax due on sale of UK home from currency fluctuation

Originally Posted by theOAP View Post
No.
Wow that doesn't seem very fair ... though I assume you could use a currency loss to offset a currency gain? (but then you'd need to be selling two houses mortgaged in two countries with different currencies, moving in opposite directions against the dollar ... or very violent currency swings in a single tax year ... not very likely.

Seems then that if it truly was a "phantom" gain (i.e., the mortgage was paid off in money that resided in the UK, and there was no capital in the house, (and therefore a zero capital gain when the house was sold), there should be some clause that covers that?

Taxes, what a mess.
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Old Feb 21st 2015, 2:56 pm
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Default Re: US Tax due on sale of UK home from currency fluctuation

Originally Posted by dunroving View Post
Wow that doesn't seem very fair ... though I assume you could use a currency loss to offset a currency gain?
A resultant loss is not recognised for the purposes of an 988 transaction. Therefore, there is never a loss to offset a gain. (And I assume each transaction is calculated separately, although it depends on where the transaction is reported. Some say on line 21 of 1040, some say as part of a different form. I don't know the answer to that one.)

Originally Posted by dunroving View Post
Seems then that if it truly was a "phantom" gain (i.e., the mortgage was paid off in money that resided in the UK, and there was no capital in the house, (and therefore a zero capital gain when the house was sold), there should be some clause that covers that?
There is, 988! Phantom gains are quite common on 1040 returns from US persons living abroad, resulting from exchange fluctuations on various types of supposed currency gains.

Originally Posted by dunroving View Post
Taxes, what a mess.
There are still those who question why a US citizen, intending to remain permanently abroad, would consider renouncing US citizenship. This situation arises always (either gain or loss) every time a US person abroad sells a property. They may not have lived in the US for decades, but in a case the same as the OP's, they would be subject to the phantom gain, and would have to pay tax (minus offsetting FTC's?) in tangible US $'s.

Last edited by theOAP; Feb 21st 2015 at 3:00 pm.
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Old Feb 21st 2015, 3:39 pm
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Default Re: US Tax due on sale of UK home from currency fluctuation

Thanks to all the replies, seems like amazingly it is correct, but I guess nobody here is going to argue that taxes are 'fair'

'Fortunately' (very luckily) for us, I arrived in september, and we sold the house just before christmas, so I can file as non-resident, I think I lose out on some deductibles and allowances, but means I don't need to include the house sale and get landed with a tax bill for phantom earnings.

Originally Posted by MsElui
we have a very large tax bill due shortly because of this very same issue, we brought our house in 2001 before we had any concept of coming to america.
This is the same for us, and I would imagine for a lot of people moving here, a "Guide to cleaning up your UK financial affairs before moving to USA" would be really helpful like dunroving mentions.

Originally Posted by theOAP
A phantom currency loss would have been soooo much better
More than willing to be corrected, but as I read it, gains from currency fluctuations are taxable, but losses are not deductible, so it's lose-lose?
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Old Feb 21st 2015, 3:48 pm
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Default Re: US Tax due on sale of UK home from currency fluctuation

Originally Posted by Jaag View Post
More than willing to be corrected, but as I read it, gains from currency fluctuations are taxable, but losses are not deductible, so it's lose-lose?
For 988 transactions, that's correct. It always depends on which way the fluctuation occurred. If it had been in the other direction, you would have had a gain on the sale of the property, but would have been able to apply the $250,000 to $500,000 exclusion (section 121 rules), and there would have been no phantom gain on the repayment of the mortgage.

Last edited by theOAP; Feb 21st 2015 at 3:50 pm.
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Old Feb 21st 2015, 4:22 pm
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Default Re: US Tax due on sale of UK home from currency fluctuation

It seems odd if there is a Big 4 firm involved that this advice was not offered before moving to the States.

Questions to ask the tax adviser:
1. Does this qualify for capital gains treatment or if not why is it taxed as ordinary income?
2. What basket is in for foreign tax credits?
3. Did I make a 7701(b) election the year I moved to the States to maximum excess foreign tax credits for this eventuality?
4. Is there a position not to calculate the tax but disclose to the IRS?
5. Is there a position to integrate the mortgage gain with the house sale?
6. Are you using the IRS preferred exchange rate or the Interbank rate so that I get the best answer here?
7. If the employer relocated you to the States, will the employer pay the tax?
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Old Feb 26th 2015, 11:08 pm
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Default Re: US Tax due on sale of UK home from currency fluctuation

I sold my house a few months after I arrived here so have been checking the interest rates and see that I would not make a profit on the forex differential between 1995 and 2014.

That said - how is the profit actually calculated if the mortgage type was repayment ? Would I be right to presume it would simply be the mortgage balance settlement amount that would be "taxable".
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Old Feb 27th 2015, 12:45 am
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Default Re: US Tax due on sale of UK home from currency fluctuation

What if I remortgaged/refinanced?

Would the "original" sum be taken from the time of the remortgage?
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Old Feb 27th 2015, 6:58 am
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Default Re: US Tax due on sale of UK home from currency fluctuation

Following this thread as we're still deciding whether to sell or rent. If the date is when we bought the house in 2001, the rate was lower than today but if the date is from when we remortgaged last year, the rate was higher.
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