CRA indicates that s. 261(1) did not deny a loss that was deemed to be from excluded property rather than on FAPI account

S. 261(6.1) deems a foreign affiliate, for purposes of computing foreign accrual property income (FAPI), to have an elected functional currency that is the same as that of the Canadian taxpayer of which it is an FA. Suppose that FA is a U.S. subsidiary of Cansub, that Cansub has elected to have the U.S. dollar as its functional currency, that FA makes a U.S.-dollar loan to Parent (which has the Canadian dollar as its functional currency and is the parent of Cansub), and that Parent hedges this U.S. dollar exposure by entering into a Canadian-U.S. dollar cross-currency swap with a bank.

In 2017-0691211C6, CRA indicated that if Parent realizes an FX loss on the maturity of the loan to it, this loss will be denied under s. 261(21), mainly because the loan is on FAPI account, and therefore within the scope of s. 261(6.1) so that FA would have a tax-reporting currency of the U.S. dollar.

Suppose instead that the “specified transaction” is a loan from Parent to FA (the Parent-FA Loan) and that the gain or loss from the settlement of this loan is deemed, under s. 95(2)(i), to be a gain or loss from the disposition of an excluded property of FA (not giving rise to FAPI).

CRA indicated that since, on this basis, no amount would be included in FA’s FAPI in respect of Cansub on the settlement of the Parent-FA loan, and FA would not have Canadian tax results, it also would not have a tax reporting currency, so that such condition for s. 261(20) to apply would not be met: s. 261(21) would not deny Parent’s loss.

Neal Armstrong. Summary of 25 November 2021 CTF Roundtable, Q.11 under s. 260(20)(b).