Revised tracking interest rules may not permit recognition of offsetting FAPLs

Where foreign investment funds are structured as corporate umbrella funds (i.e., with each sub-fund of the corporation being a separate investment fund for commercial and regulatory purposes), it is quite possible that there would only be a few Canadian investors in a particular Canadian-dollar sub-fund (with the manager typically hedging the sub-fund’s non-Canadian assets back to the Canadian dollar), so that the Canadian investor’s shares may very well be tracking interests – because the Canadian dollar class or series would be seen as a separate tracked interest from the other interests in the sub-fund. Accordingly, such Canadian investors, holding a relatively small number of shares of the sub-fund, but more than 10% of the shares of the Canadian dollar class or series of the sub-fund, may be caught by the tracking interest rules. This issue still arises under the amended version of the tracking interest rules released on October 25, 2018.

Under s. 95(11)(e) of the new October 25, 2018 rules, where the tracked property has been deemed to be property of a separate corporation, that deemed separate corporation is deemed to have 100 outstanding shares of a single class, with each shareholder deemed to hold its "aggregate participating percentage” (as defined in s. 91(1.3)) of the shares of the separate corporation.

Given the $5,000 threshold rule in the definition of “participating percentage” in s. 95(1), the taxpayer will not have any shares of the separate corporation attributed to it if foreign accrual property income in the relevant cell does not exceed $5,000. This may imply that the taxpayer does not get the benefit of any foreign accrual property loss that might otherwise arise in a particular year.

It seems inappropriate to impute FAPI of a deemed CFA to the taxpayer but deny the taxpayer the benefit of any FAPLs of the CFA.

Neal Armstrong. Summaries of Peter Lee and Annika Wang, “The Tracking Interest Rules,” International Tax (Wolters Kluwer CCH), No. 193, December 2018, p.5 under s. 95(8) and s. 95(11)(e).