For individuals relocating to the United States, the transition to US tax residency brings a host of unfamiliar compliance obligations. One commonly overlooked issue involves the repayment of foreign mortgages or personal loans. While this might seem like a straightforward personal finance matter, US tax law can introduce hidden consequences, particularly under Internal Revenue Code Section 988, which governs foreign currency transactions.
We’ll explain how repaying a foreign mortgage or loan can create a foreign exchange gain or loss, and when this gain may be taxable to a US person.
Section 988: Why Currency Fluctuations Matter
Under Section 988, a gain or loss arising from changes in exchange rates between the time a debt is incurred and when it is repaid may be treated as ordinary income or loss. This rule applies when the debt is denominated in a foreign currency and the taxpayer is a US tax resident.
For example, if you took out a mortgage in GBP to purchase a UK property before moving to the US, and you repay that loan in GBP after becoming a US resident, Section 988 could apply to the repayment.
Example: Repaying a UK Mortgage After Moving to the US
Let’s say you borrowed £200,000 in 2020 to purchase a UK home. At the time, the exchange rate was 1 GBP = 1.30 USD, so the USD equivalent of your mortgage was $260,000. You move to the US in 2023 and become a US tax resident. In 2025, you repay the mortgage in full, when the exchange rate is 1 GBP = 1.20 USD. The loan is now worth only $240,000 in USD terms.
That $20,000 difference would be treated as a foreign exchange gain under Section 988. Because you repaid the mortgage at a lower USD value than when it was issued, you realised a gain for tax purposes. That gain is generally treated as ordinary income and reportable on your US tax return.
Is the Section 988 Gain Taxable?
Here’s where nuance matters:
If the foreign loan is related to personal use property (e.g. your main residence), the foreign exchange gain is taxable. If the loan is tied to investment or business property, the gain may still be taxable, but it might be offset by related losses or deductions. If the gain qualifies as “personal use gain” but is under the de minimis threshold (typically $200), it may be excluded.
However, the rules are highly fact-specific and depend on how the loan proceeds were used and how the IRS classifies the debt.
What If There’s a Loss?
Foreign exchange losses on personal loans (e.g. mortgage for a private residence) are typically not deductible. Only losses on loans used in a trade or business may be deductible. This creates an asymmetrical treatment: gains are taxed, but losses often cannot be claimed.
Currency Hedge or Prepayment Planning
Many taxpayers unknowingly trigger Section 988 issues when repaying loans with the proceeds of another foreign transaction, such as:
Selling a foreign property using a foreign currency bank account Prepaying a mortgage when rates move favourably
Strategic timing, hedging, or paying off the debt before US tax residency begins may reduce exposure. However, these require forward planning.
Final Thoughts
Repaying a foreign mortgage after becoming a US tax resident may trigger taxable foreign exchange gains under Section 988. These rules are complex and can create unexpected tax liabilities for newcomers to the US.
The information in this blog post is for general informational purposes only and does not constitute professional tax advice. We strongly recommend consulting a qualified tax professional before making any decisions. US Expat Tax Advisor is not liable for any actions taken based on this content.
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