Treasury and the IRS have released proposed regulations under Section 987 that would simplify the application of Section 987 rules for controlled foreign corporations (CFCs) that hold interests in qualified business units (QBUs) with a functional currency different from the CFC owner. Specifically, the proposed regulations would allow a CFC to elect out of recognizing Section 987 gain or loss on remittances from Section 987 QBU(s), except in connection with certain inbound nonrecognition transactions.

Background

Section 987 applies when a taxpayer owns a QBU with a functional currency different from the taxpayer’s functional currency. A QBU is generally a separate unit of a taxpayer’s trade or business, including a branch or a foreign entity held by a CFC that is disregarded for U.S. federal income tax purposes, that maintains its own books and records. Section 987 generally requires the taxpayer to determine and recognize foreign currency gain or loss in connection with remittances, terminations and certain transfers of property between a QBU and its owner.

In 2024, Treasury and the IRS issued final regulations under Section 987 which provided comprehensive rules governing Section 987 going forward while requiring taxpayers to calculate pretransition Section 987 gain or loss with respect to existing QBUs. Although those rules generally were applicable to CFCs, in February 2026 the IRS announced in Notice 2026-17 the intent to issue additional guidance simplifying the application of Section 987 to CFCs. The proposed regulations implement that announced simplification initiative.

Proposed regulations

The proposed regulations would permit taxpayers who hold CFCs which hold a QBU to avoid recognition of Section 987 gain or loss with respect to certain remittances and terminations of such QBU (the CFC 987 Exemption Election). The CFC 987 Exemption Election does not turn Section 987 off entirely; rules for determining and translating Section 987 taxable income or loss under Section 987(1) and (2) would continue to apply, including for purposes of computing taxable income and earnings and profits.

Key considerations when assessing whether to make the CFC 987 Exemption Election include:

• • Election timing and mechanics. For taxable years beginning after Dec. 31, 2024, and ending on or before Dec. 31, 2026, the election generally may be made on an original, timely filed return. For taxable years beginning in 2025, taxpayers may also make the election on an amended return filed on or before Oct. 15, 2027. For taxable years ending in 2027, the election generally may be made by Oct. 15, 2027, and for later years generally would need to be made before the first day of the taxable year to which the election applies. Once made, the election generally may not be revoked without the consent of the Commissioner.
  • Consistency requirements. The election generally must be made consistently across commonly controlled CFCs, including certain majority-owned CFCs of affiliated domestic corporations. The proposed regulations also include rules for CFC stock held through domestic partnerships and anti-avoidance rules aimed at preventing selective use or revocation of the election.
  • Treatment of pre-election gain or loss. If the election is made after built-in Section 987 gain or loss has accrued, a CFC must generally recognize such gain or loss ratably over 120 months. However, a CFC making such election would be treated as having no pre-election Section 987 gain or loss with respect to a QBU whose average assets are less than $50 million for the three-year period preceding the first taxable year for which the election applies.
  • Application to partnership interests. The proposed regulations include rules intended to provide similar treatment for Section 987 QBUs owned directly by exempt CFCs and Section 987 QBUs owned through partnerships by exempt CFCs.
  • Gain recognition provisions and anti-abuse rules. In certain inbound liquidations, an exempt CFC may still be required to recognize Section 987 gain, but not loss, notwithstanding the election, unless a de minimis exception applies. The proposed regulations also contain anti-abuse and anti-loss trafficking rules that may limit a taxpayer’s ability to revoke or otherwise exit the election after recognizing pre-election losses.

Effective dates

The proposed regulations generally would apply to taxable years ending on or after the date final regulations are filed with the Federal Register. Taxpayers may rely on the proposed regulations for taxable years beginning after Dec. 31, 2024, and ending before finalization, provided the taxpayer and relevant group members apply the rules consistently.

Practitioner perspective

The proposed regulations provide meaningful simplification for U.S. multinationals with CFCs that hold QBUs subject to Section 987. Taxpayers should consider whether positions taken in applying the 2024 final regulations should be revisited, including prior calculations of pretransition Section 987 gain or loss. Depending on the taxpayer’s facts, the proposed rules may provide an opportunity to reduce or eliminate the burden associated with historical Section 987 balances while simplifying future compliance.