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.
Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.
Principal Issues:
Calculation of forgiven amount for purposes of section 80 when debt is denominated in foreign currency.
Position:
Determine new principal amount; per 80(2)(k) new debt determined in foreign dollars; then convert to Cdn $ at exchange rate in existance at time of original issue. FX gain\loss to borrower.
Reasons:
Reading of the Act and Explanatory Notes
960179
XXXXXXXXXX S.J. Tevlin
Attention: XXXXXXXXXX
February 28, 1996
Dear Sirs:
Re: Paragraphs 80(2)(h) and 80(2)(k) of the Income Tax Act (the "Act")
We are writing in response to your letter of January 10, 1996 wherein you requested our opinion with respect to the following hypothetical situation.
Background
A debt ("old debt") is denominated in US dollars. The old debt was incurred for a capital purpose. The old debt is subsequently replaced by a new debt obligation denominated in Canadian dollars. At the time the old debt was incurred the exchange rate was $1 US = $1.4 Cdn. At the time of settlement of the old debt the Canadian dollar and the U.S. dollar are trading at par.
You have asked for our opinion as to whether the "principal amount" of the new obligation at the time of the exchange would have to be $1400 Cdn or only $1000 Cdn in order to avoid a "forgiven amount", as that term is defined in subsection 80(1) of the Act.
You have also inquired as to whether the result would be the same if the debt had been incurred on income account.
The key definition in section 80, in respect of a commercial obligation issued by a debtor, is "forgiven amount", and it is determined by the formula A - B, where
A is the lesser of the amount for which the obligation was issued and the principal amount of the obligation and,
B is the aggregate of nine different elements, one of which is:
(a) the amount, if any, paid at the time in satisfaction of the principal amount of the obligation.
New subsection 80(2) of the Act provides a number of rules of application for the purposes of section 80 of the Act and in particular the determination of "forgiven amount".
Pursuant to paragraph 80(2)(h) of the Act where one commercial debt obligation is replaced by a new commercial debt obligation an amount equal to the "principal amount" of the new debt obligation shall be deemed paid by the debtor at that time, ... , in satisfaction of the principal amount of the old obligation.
Paragraph 80(2)(k) of the Act states, "where an obligation is denominated in a currency (other than Canadian currency), the forgiven amount at any time in respect of an obligation shall be determined with reference to the relative value of that currency and Canadian currency at the time the obligation was issued".
As such, foreign currency fluctuations after the time an obligation is issued are ignored for the purposes of section 80 of the Act.
In your example, paragraph 80(2)(h) of the Act would deem a new $1000 Cdn debt to have been paid in satisfaction of the "principal amount" of the old obligation. Pursuant to paragraph 80(2)(k) of the Act, in determining the forgiven amount, the principal amount of the new debt ($ Cdn) determined in the foreign currency ($ US) at the time of the conversion is converted to Canadian dollars at the exchange rate that was in effect at the time the debt was incurred.
Therefore, with the currencies at par at the time of conversion, a $1000 Cdn debt is equivalent to a $1000 US debt. The relative value of a $1000 US debt in terms of Canadian currency at the time the old debt was incurred, using an exchange rate of 1:1.4, is $1400 Cdn. Consequently, there is no forgiven amount where the principal amount of the new debt is $1000 Cdn. The borrower will however recognize a $400 foreign exchange gain on conversion.
It is our opinion that the results would be the same if the old debt had been incurred on income account except that the foreign exchange income gain to the borrower may have been recognized prior to the exchange.
The foregoing comments are given in accordance with the practice referred to in paragraph 21 of Information Circular IC-70-6R2 and are not binding on Revenue Canada, Taxation.
Yours truly,
for Director
Financial Industries Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch
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