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: Is the transfer of rights and obligations of a swap from one counterparty to another counterparty (already involved in a mirror-swap) considered a disposition such that income or a loss is realized for tax purposes?
Position: no
Reasons: Rights and Obligations are identical.
XXXXXXXXXX 2008-027643
XXXXXXXXXX , 2008
Dear XXXXXXXXXX :
Re: Income Tax Ruling
XXXXXXXXXX ("A")
This is in reply to your letter of XXXXXXXXXX , wherein you requested an advance income tax ruling on behalf of the above-named taxpayer.
We understand that, to the best of your knowledge and that of the taxpayer involved, none of the issues contained in this ruling request herein are:
(i) dealt with in an earlier return of the taxpayer or a related person;
(ii) being considered by a tax services office or a taxation centre in connection with a tax return already filed by the taxpayer or a related person;
(iii) under objection by the taxpayer or a related person;
(iv) the subject of a previous ruling issued by the Income Tax Rulings Directorate to the taxpayer or a related person; nor
(v) before the courts, or if a judgment has been issued, the time limit for appeal to a higher court has expired.
Unless otherwise indicated, all references to monetary amounts are in Canadian dollars.
Also, unless otherwise expressly stated, every reference herein to a part, section or subsection, paragraph or subparagraph and clause or subclause is a reference to the relevant provision of the Income Tax Act, R.S.C. 1985 (5th Supp.) c. 1, as amended.
Facts:
1. XXXXXXXXXX
2. XXXXXXXXXX
3. XXXXXXXXXX
4. A is a limited purpose income trust established under the laws of XXXXXXXXXX . A is a mutual fund trust and is publicly traded on the XXXXXXXXXX Stock Exchange.
5. A provides its unitholders with an economic interest in exposures relating to the credit performance of three global diversified portfolios of mortgage-backed securities, asset-backed securities, synthetic corporate exposures and other fixed structured finance securities.
6. To acquire the economic interest described in 5 above, A has entered into three credit default swaps with B that provide an economic interest in exposures relating to the credit performance of a portfolio of relevant investments ("A-B Swaps").
7. B has entered into three "mirror" credit default swaps with XXXXXXXXXX (the "Bank") that provide B with the same economic interests as are provided to A pursuant to the A-B Swaps ("B-the Bank Swaps").
8. Subject to the discussion in 9 below, under the A-B Swaps and the B-the Bank Swaps: (i) A has the same rights and obligations vis-a-vis B as B has vis-a-vis the Bank, and (ii) the Bank has the same rights and obligations vis-a-vis B as B has vis-a-vis A.
9. Although, the A-B Swaps and B-the Bank Swaps constitute mirror swaps, the A-B Swaps contain two distinctive characteristics. First, they allow B to withhold all payments due to A (the "Withholding Rights") in order to repay, inter alia, the principal amount of the Commercial Paper it has issued. Second, they provide for a possible payment to A by B at maturity of the A-B Swaps of a certain amount corresponding to any net positive amount after repayment of B's Commercial Papers and any amount owed to A under the A-B Swaps (the "Residual Rights"). Between XXXXXXXXXX , A has included an amount in its income representing the accrued portion of the Residual Rights.
10. The amount received by A from the public on the initial issuance of units less the issue related fees, was invested in "permitted investments" acceptable to A, B and the Bank. These investments serve as collateral for A's obligations under the A-B Swaps ("Collateral"). These investments also serve as Collateral for B's obligations under the B-the Bank Swaps.
11. As a result of the above, B and A have collectively pledged the Collateral to the Bank to guarantee the obligations of B under the B-the Bank Swaps. Therefore, the Bank can settle amounts owing to it under the B-the Bank Swaps by collecting directly on the Collateral provided by A.
12. Under the terms of the A-B Swaps and subject to 9 above, B is required to pay to A any amounts received from the Bank at maturity of the B-the Bank Swaps.
13. XXXXXXXXXX has advised A and B that it requires that the rights and obligations under the A-B Swaps and the B-the Bank Swaps be combined so that the rights and obligations under the A-B Swaps exist directly between A and the Bank.
14. The terms of the A-B Swaps allow for their transfer provided that the party seeking the transfer receives written consent to the transfer from the other party. Such transfer does not involve the payment, nor the receipt of any amount as a transfer fee.
15. On XXXXXXXXXX , an agreement in principle was concluded between A and B, pursuant to which both parties agreed to sever their contractual obligations under the A-B Swaps (the "XXXXXXXXXX Agreement"). Pursuant to the terms of the XXXXXXXXXX Agreement, B will pay to A any amount previously withheld pursuant to the Withholding Rights and any amount accrued on account of the Residual Rights. No payment will be made in consideration of the termination of these contractual obligations under the A-B Swaps.
16. As noted in 9 above, A has already included in its income between XXXXXXXXXX amounts representing the accrued portion of the Residual Rights. Therefore, no further amounts will be included in A's income on account of the Residual Rights received from B under the XXXXXXXXXX Agreement. The amounts withheld by B pursuant to the Withholding Rights pertained to the transfer of collateral from A to B which are transactions on capital account and which generally give rise to neither gain nor loss. The receipt of these amounts will be reported as such by A.
Proposed Transaction and Purpose of the Proposed Transaction:
17. XXXXXXXXXX
Rulings Given:
Provided that the preceding statements constitute a complete and accurate disclosure of all the relevant facts, the proposed transaction and purpose of the proposed transaction, and provided that the proposed transaction is completed in the manner described above, we rule as follows:
The transfer by B to the Bank of all of its rights and obligations pursuant to the A-B Swaps, as described in 17 above, in consideration for the release by the Bank of all of B's obligations under the B-the Bank Swaps, and the assumption by the Bank of B's rights and obligations under the A-B Swaps, will not cause any amount to be included in computing the income of, nor will it cause any amount to be realized as a loss by, A.
The above ruling is given subject to the limitations and qualifications set out in Information Circular 70-6R5 dated May 17, 2002 and is binding on the CRA provided that the proposed transaction is completed by XXXXXXXXXX .
The above ruling is based on the law as it presently reads and do not take into account any proposed amendments to the Act which, if enacted, could have an effect on the rulings provided herein.
Yours truly,
XXXXXXXXXX
for Director
Financial Sector and Exempt Entities Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch
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