Actually TaxGuyBill, your answer is incorrect. I've been working in international taxation for over 31 years. There are THREE gains here that need to be addressed. First, he has a gain on the sale of the rental property. The gain is the sales price in Euro less the cost in Euro at today's exchange rates. Second he has an exchange gain under IRC §988 for the currency appreciation on the cost basis, calculated as cost basis at sales date rate less cost basis at purchase date rate. Finally, he has a gain on the settlement of the mortgage, using the exchange rate at the mortgage origination less the payoff at the payoff date exchange rate.
Hope this helps!
