Straightforward debt transactions can raise difficult questions
There often will be a punitively asymmetrical result where an intermediary in a back-to-back loan arrangement receives and pays a loan prepayment penalty. For example, if a non- financial institution had incurred a liability to fund the acquisition of a debt receivable, and the early repayment of the debt receivable to the intermediary and the use of those proceeds by the intermediary to repay, in turn, its liability triggered the receipt and payment by it of a penalty, it generally would include the full amount of the penalty in its current income, but might not be able to claim an offsetting deduction—and might instead be limited to claiming the penalty paid by it as a cost of disposition in computing its gain or loss arising from the disposition of the debt receivable.
It is unclear whether a specific tracing or blended aggregate approach (i.e., based on a buildup of the applicable relevant spot rates for historical transactions) should be used in determining the s. 39(2) gain or loss on partial repayments of foreign-currency denominated debt,
The computation of the exit tax under s. 219.1(1) includes a deduction for the “amount” of the debt of the emigrating corporation. Given the broad definition of “amount” in s. 248(1), this appears to refer to the debt’s fair market value rather than principal amount. This is reinforced by considering the example of an emigrating corporation with matching intercorporate debt receivable and payable, both of which have a FMV lower than their principal amounts – so that if the debt receivable but not the debt payable was taken into account at its FMV, a net deduction would arise to shelter other net asset values.
Neal Armstrong. Summaries of Jim Samuel and Byron Beswick “Selected Issues in Transactions Involving Debt,” 2019 Conference Report (Canadian Tax Foundation), 18:1 – 27 under s. 20(1)(f), s. 20(14)(a). s. 18(9.1), s. 39(2) and s. 219.1(1).