Foreign currency debts must be updated to the closing exchange rate

Companies that hold debts with suppliers in foreign currency and use derivative instruments to mitigate exchange risk must observe a specific treatment in their valuation at the end of the fiscal year to comply with Corporate Income Tax (IS) regulations.

What the DGT has resolved

The Dirección General de Tributos (DGT) has determined that a debt with a supplier, being a monetary item in foreign currency, requires a double valuation: first, at the spot exchange rate on the date of the transaction and, subsequently, at the exchange rate in force at the close of the fiscal year.

The ruling addresses whether the existence of a hedging contract (such as a forward) allows the debt to be maintained at a fixed exchange rate. The answer is negative: the debt must be updated to the closing exchange rate. However, if the hedging contract is accounted for as a fair value hedge, the value variations of said instrument must be integrated with the exchange differences of the debt, in accordance with Article 17.11 of the Corporate Income Tax Law (LIS).

Furthermore, the tax authority points out that the commission of the hedging contract is deductible in the fiscal year it accrues, provided it is recorded as a financial expense. These amounts will count towards the application of the limitation on financial expenses provided for in Article 16 of the LIS.

What it means for you

If your company operates with foreign currencies and uses derivatives to protect itself from volatility, you cannot ignore the fluctuation of the exchange rate on your principal debt based solely on the hedging contract. The obligation to update the debt at year-end is imperative.

The key lies in the accounting treatment of the derivative. If fair value hedge accounting is applied, the impact of the hedge and that of the debt will offset each other in the financial result, allowing the economic reality of the operation to be reflected under the LIS framework.

What you should do

It is necessary to ensure that the accounting treatment of forward contracts is consistent with tax regulations to avoid errors in determining exchange differences. It must be verified that both the updating of the debt and the integration of the derivative variations comply with the requirements of the Corporate Income Tax Law, especially regarding the deductibility of commissions and the limitation on financial expenses.