Debt conversions and assumptions can operate asymmetrically as between debtor and creditor

The conversion (after addition of a conversion right) of an appreciated USD debt into prefs appears to operate in an asymmetrical manner, so that the creditor enjoys rollover treatment under s. 51, whereas the debtor realizes an FX loss under s. 39(2). Similarly, a conversion into shares on a s. 51 rollover basis nonetheless would give rise to a repayment for s. 15(2.6) purposes.

Two rulings suggest that an internal assumption (e.g., by a sub of its parent’s FX debt but without the parent being released) would give rise to a s. 39(2) gain or loss to the parent even though there would be no disposition to the creditor.

The s. 51.1 rollover requires that the principal amounts of the exchanged obligations be the same. In two rulings given after the enactment of s. 261(2)(b), CRA indicated that s. 51.1 applied to the conversion of US-dollar-denominated non-interest-bearing notes into US-dollar-denominated interest-bearing notes with the same principal amount in US dollars (but not the Canadian-dollar equivalent).

When an FX-denominated debt is repaid by issuing a replacement debt denominated in the same currency, there is an argument that no s. 39(2) gain or loss is realized. It also is unclear whether a deemed dividend arises on redemption of preferred shares having a USD-denominated stated capital.

Although CRA has considered that substitutions for s. 93(2.1) purposes are not limited to share-for-share transactions, “there seems to be a reasonable interpretation that a taxable disposition of the shares for cash (or a promissory note) should break the chain of substitutions, such that dividends paid on the original shares should no longer be relevant.”

Neal Armstrong. Summaries of Didier Fréchette and Ryan Rabinovitch, "Current Issues Involving Foreign Exchange" 2015 CTF Annual Conference paper under s. 51(1), s. 39(2), s. 51.1, s. 80(2)(k), s. 84(3), s. 84(4), s. 93(2.01), s. 93(2.1) and s. 112(3).