Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.
Principal Issues: How does a Canadian taxpayer compute the FAPI of a foreign affiliate that is denominated in a currency other than the Canadian dollar?
Position: Rate of the exchange prevailing at the time of the transaction or average rate.
Reasons: Words in sections 95(1), 91
2003-004706
XXXXXXXXXX Suzanie Chua
613 957-2115
March 26, 2004
Dear XXXXXXXXXX:
Re: Foreign Accrual Property Income and Foreign Currency Conversion
We are writing in response to your letter in which you ask for our comments on the above matter. The hypothetical facts you have provided are as follows:
1. Mr. X is an individual resident in Canada.
2. Mr. X wholly-owns a corporation incorporated in the United Sates ("FA") that is a "controlled foreign affiliate" of Mr. X pursuant to that definition in subsection 95(1) of the Income Tax Act (the "Act").
3. FA's sole activity is earning rental income in the US on a monthly basis. As such, FA conducts an "investment business" and earns "foreign accrual property income" ("FAPI") as those terms are defined in subsection 95(1) of the Act.
4. FA has a June 30th year-end.
5. For the year ended June 30, 20X1, FA earned total rental income of US$50,000.
6. The 12 month average rate of exchange for the year ended June 30, 20X1 is 1.5 and the June 30, 20X1 spot rate is 1.3.
7. FA pays a dividend to Mr. X every year on June 30th.
You query whether the spot rate of exchange on June 30, 20X1 would be appropriate in the conversion of the rental income into Canadian dollars in the computation of FAPI. You are concerned because if the average rate for the 12 month period ended June 30, 20X1 was used to compute Mr. X's share of the FAPI earned by FA, Mr. X would be taxed on more than he actually received.
Written confirmation of the tax implications inherent in real transactions is given by this Directorate only where the transactions are proposed and are the subject matter of an advance income tax ruling request submitted in the manner set out in Information Circular 70-6R5. However, we are prepared to provide you with the following general comments.
Canadian income determination rules apply to the calculation of FAPI as the word "incomes" is used in "A" of that definition in subsection 95(1) of the Act without any special definition. While transactions on income account are normally recorded in a taxpayer's accounts in the Canadian dollar equivalent determined according to the rate of the exchange prevailing at the time of the transaction, the average rate of exchange during the year can also be used.
If the average rate of exchange was used to compute FA's income from property i.e. rental income for the year ended June 30, 20X1, the "A" amount in FA's FAPI calculation under subsection 95(1) would be Can$75,000. Assuming the rental income earned over the course of the year had been invested as it was earned by FA in a US dollar bank savings account (assume negligible interest revenue for the purposes of this example), at the time the funds were repatriated i.e. by way of a dividend to Mr. X, on June 30, 20X1, FA would sustain a loss by virtue of the fluctuation of the US dollar relative to the Canadian dollar to which subsection 39(2) would apply. The amount of such capital loss would be roughly equal to the difference (i.e. Can$10,000) between the amount of the FAPI (i.e. the value, in Canadian dollars, of the funds when they were deposited in the savings account) as determined above and the value in Canadian dollars of the funds in the savings account at the time of the dividend. FA would include an allowable capital loss determined under paragraph 38(b) of the Act as the "E" amount in the FAPI calculation in subsection 95(1). Accordingly, the net FAPI Mr. X would, pursuant to subsection 91(1), include in the computation of his income for the year ended December 31, 20X1 is Can$70,000. The difference between the net FAPI of Can$70,000 and the dividend of Can$65,000 using the spot rate on June 30, 20X1 is explained by the non-deductible portion of the capital loss.
We trust that our comments have been helpful.
Yours truly,
Olli Laurikainen, Manager
for Director
International and Trusts Division
Income Tax Rulings Directorate
Planning and Planning Branch
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