The taxpayer had held a significant investment in the common shares of Bank of Nova Scotia (“BNS”) since 1988. In 1997, due to “storm clouds,” he entered into a forward contract with TD Securities Inc. for the forward sale by him of a reference number of BNS shares, except that the Forward Contract could only be cash settled. The forward sale date initially was June 26, 2002, but the contract was subsequently extended. He made cash settlement payments under the contract in 2004, 2005 and 2006 totaling $9,956,837 (which he fully deducted as being on income account), and the contract was terminated on March 29, 2006.
Lafleur J found that these payments would have been on income account before considering whether the Forward Contract was a hedge of his capital investment in the BNS shares, given inter alia that:
- it afforded him “an opportunity to speculate on the outcome that the price of the BNS Shares would drop in the short term” (para. 60)
- it “could only be cash settled” (para. 61)
- “it involved great potential for risk and reward…and was not used to lock-in any gain in the BNS shares” (para. 61)
- “Mr. MacDonald was exposed to no risk by holding the BNS shares since he did not want to sell them for the very long term. Accordingly, by entering into the Forward Contract… he increased his risk… .” (para. 68)
Turning to whether the Forward Contract instead was held on capital account on the basis of being a hedge of a capital asset (the BNS shares), she stated (at paras. 85-86, 95):
[A]n essential component of a hedge is that the strategy used to hedge must result in an offset of investment risk… . [A] hedging instrument [must be] directly linked (or symmetrical) to the underlying asset that is the subject of the hedge in terms of both quantum and timing… . [T]he law still requires a close linkage between the purported hedging instrument and the underlying asset.
In finding that these hedging criteria were not satisfied, so that his settlement payments under the Forward Contract were fully deductible, she stated (at paras 107 and 112):
… [T]he settlements were not based on any anticipated sale of the BNS shares and the sale of BNS shares by Mr. MacDonald did not occur in close proximity to the settlements.
Mr. MacDonald owned the BNS [and predecessor] shares for approximately 30 years prior to entering into the Forward Contract. … Mr. MacDonald only had an unrealized gain on the BNS shares but an actual loss on the settlement of the Forward Contract. I am of the view that without Mr. MacDonald having sold BNS shares in very close proximity with the settlement of the Forward Contract, one cannot conclude that Mr. MacDonald had mitigated or reduced a risk. …
The fact that the taxpayer also received a TD loan (which was much less than the maximum he could have borrowed and was largely repaid by 2004) was of limited relevance.