2025 Ruling 2022-0943251R3 - Application of 108(2)(b)(iii) and (iv)

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: 1) Whether units of a particular ETF would be considered a marketable security for purposes of clause 108(2)(b)(iii)(E)? 2) Whether income is computed on a net basis for purposes of subparagraph 108(2)(b)(iv) where the relevant income sources are held in a tiered partnership structure.

Position: 1) The particular units would qualify. 2) Opinion provided.

Reasons: 1) The law.

XXXXXXXXXX									2022-094325

Dear XXXXXXXXXX:

Re: Advance Income Tax Ruling
XXXXXXXXXX

This is in reply to your letter of XXXXXXXXXX, amended XXXXXXXXXX, in which you requested an advance income tax ruling (“Ruling”) on behalf of the above-named taxpayers. We also acknowledge the information provided in subsequent correspondence and during our various telephone conversations in connection with your request.

We understand that, to the best of your knowledge and that of the taxpayers involved, none of the Subject Transactions, Proposed Transactions or issues involved in the Ruling request are the same as or substantially similar to transactions or issues that are:

(i) in a previously filed tax return of the taxpayers or a related person and:

a. being considered by the CRA in connection with such return;
b. under objection by the taxpayers or a related person; or
c. the subject of a current or completed court process involving the taxpayers or a related person; or

(ii) the subject of a Ruling request previously considered by the Income Tax Rulings Directorate.

This document is based solely on the facts, Subject Transactions and Proposed Transactions described below. The documentation submitted with your request does not form part of the facts, Subject Transactions and Proposed Transactions except as expressly referred to herein, and any references thereto are provided solely for the convenience of the reader.

DEFINITIONS

Unless otherwise stated:

i. all references to a statute are to the relevant provision of the Income Tax Act, R.S.C. 1985 (5th Supp.), c.1, as amended, (the “Act”), or, where appropriate, the Income Tax Regulations, C.R.C., c.945, as amended, (the “Regulations”);

ii. all terms and conditions used in this Ruling request that are defined in the Act (or in the Regulations) have the meaning given in such definition;

iii. all references to monetary amounts are in Canadian dollars; and

iv. the singular should be read as plural and vice versa where the circumstances so require.

The following abbreviations, terms and expressions have the meanings specified, and the relevant parties to the Proposed Transactions will be referred to as follows:

(a) “ACo” means XXXXXXXXXX;

(b) “Affiliate” has the meaning assigned by the Business Corporations Act (XXXXXXXXXX);

(c) “BCo” means XXXXXXXXXX, an Affiliate of Manager;

(d) “XXXXXXXXXX ETF” means XXXXXXXXXX ETF;

(e) “CAD” means Canadian dollars;

(f) “Canadian partnership” has the meaning assigned by subsection 102(1);

(g) “CRA” means Canada Revenue Agency;

(h) “Distribution” has the meaning described in Paragraph 12;

(i) “ETF” means an exchange-traded fund;

(j) “Feeder Partnership” means XXXXXXXXXX;

(k) “FMV” or “fair market value” means the highest price available in an open and unrestricted market between informed and prudent parties dealing at arm’s length and under no compulsion to act, expressed in terms of cash;

(l) “Fund” means XXXXXXXXXX;

(m) “Fund Hedges” has the meaning described in Paragraph 7;

(n) “Fund Interest” has the meaning described in Paragraph 11;

(o) “GP” means XXXXXXXXXX;

(p) “Hedges” means both the Fund Hedges and the Off-Setting Hedges;

(q) “Investor Trust” means XXXXXXXXXX;

(r) “Manager” means XXXXXXXXXX;

(s) “Mutual Fund Trust” means a “mutual fund trust” as defined in subsection 132(6);

(t) “Off-Setting Hedges” has the meaning described in Paragraph 14;

(u) “Paragraph” refers to a numbered paragraph in this letter;

(v) “Promissory Note” has the meaning described in Paragraph 11;

(w) “Proposed Transactions” means the proposed transactions described in Paragraphs 14 to 16;

(x) “Redemption” has the meaning described in Paragraph 12;

(y) “Subject Transactions” means the subject transactions described in Paragraphs 10 to 13;

(z) “Trust” means the XXXXXXXXXX;

(aa) “Unit Trust” means a unit trust as defined in subsection 108(2); and

(bb) “USD” means U.S. dollars.

FACTS

1. The Trust is an investment fund, units in which are offered under a simplified prospectus. The Trust was established as a trust under the laws of the province of XXXXXXXXXX. The Trust is a resident of Canada. The trustee, manager and portfolio manager of the Trust is ACo, a Canadian resident corporation. The Trust is served by the by the XXXXXXXXXX and files its tax returns with the XXXXXXXXXX.

2. The Trust wishes to qualify as a Mutual Fund Trust and a closed-ended Unit Trust as described in paragraph 108(2)(b) beginning in its XXXXXXXXXX taxation year.

3. The Fund is a XXXXXXXXXX fund (XXXXXXXXXX) organized as a limited partnership under the laws of the XXXXXXXXXX and a Canadian partnership. The principal undertaking of the Fund is the making, acquiring and holding of XXXXXXXXXX. The Fund is managed by Manager. The general partner of the Fund is GP which is a Canadian resident corporation. The Class “A” Common shares of GP are owned by Manager. The Class “B” Common shares of GP are held by certain managing directors of Manager. The Fund is served by the by the XXXXXXXXXX and files its tax returns with the XXXXXXXXXX.

4. The Trust indirectly invests approximately XXXXXXXXXX% of its assets in the Fund. Prior to XXXXXXXXXX, the investment was made indirectly through the Investor Trust, a trust established under the laws of the province of XXXXXXXXXX which is also managed by Manager. At that time, the Trust held units in the Investor Trust and had a capital account in the Investor Trust with respect to these units. The Investor Trust invested directly in the Fund.

5. The Trust’s remaining assets are invested in a portfolio consisting of XXXXXXXXXX, including the XXXXXXXXXX ETF, XXXXXXXXXX. The only undertaking of the Trust is the investment of its funds in property (other than real property or an interest in real property or an immovable or a real right in an immovable).

6. The Fund reports its results in USD for financial reporting purposes and operates using USD as its primary currency. The Fund’s investments include XXXXXXXXXX. The Fund reports amounts in CAD for Canadian income tax purposes.

7. In connection with its current and future investment in XXXXXXXXXX, the Fund has entered into and will continue to enter into hedging contracts XXXXXXXXXX (collectively, the “Fund Hedges”) under which the currency of the investment is hedged back to USD. The Fund Hedges are not any of the types of property described in subparagraph 108(2)(b)(iii).

8. The Trust reports its financial results in CAD and operates using CAD as its primary currency. Publicly-traded currency futures contracts have and will continue to be acquired by the Trust to manage its foreign exchange risk.

9. The XXXXXXXXXX ETF is an ETF established as a trust under the laws of the province of XXXXXXXXXX. Units of the XXXXXXXXXX ETF are listed and traded on the XXXXXXXXXX under the trading symbol “XXXXXXXXXX”.

SUBJECT TRANSACTIONS

Subsequent to the submission of the Ruling request, the following transactions that had been proposed to take place were undertaken and executed at the times and in the manner set forth below:

10. On XXXXXXXXXX, GP, as the general partner, and BCo, as the initial limited partner, formed the Feeder Partnership under the laws of the province of XXXXXXXXXX. On the formation of the Feeder Partnership, GP made a capital contribution to the Feeder Partnership of $XXXXXXXXXX in respect of its general partner interest. BCo made a capital contribution of $XXXXXXXXXX in respect of its limited partner interest. The Feeder Partnership was formed with a short form limited partnership agreement, which was amended and restated on XXXXXXXXXX with all the relevant terms and provisions.

11. On XXXXXXXXXX, the Investor Trust sold a portion of its interest in the Fund (the “Fund Interest”), having a FMV equal to the FMV of the Trust’s interest in the Investor Trust, to the Feeder Partnership in exchange for a promissory note issued by the Feeder Partnership having a principal amount and FMV equal to the FMV of the Fund Interest (the “Promissory Note”);

12. On XXXXXXXXXX, the Investor Trust made an amount payable to the Trust (the “Distribution”). The Distribution represented in part a distribution out of the Investor Trust’s taxable capital gains and the remainder was a payment out of the Trust’s capital account in the Investor Trust. The Distribution was equal to the FMV of the Trust’s interest in the Investor Trust less the FMV of the Trust’s units in the Investor Trust. The Investor Trust also redeemed the Trust’s units in the Investor Trust for an amount equal to the then nominal FMV of the units (the “Redemption”). The Distribution and the Redemption were satisfied by way of the transfer by the Investor Trust of the Promissory Note to the Trust. The FMV of the Promissory Note was equal to the FMV of the Distribution and the Redemption price for the redeemed units. As a result of the Distribution and the Redemption, the Trust no longer holds any interest in the Investor Trust.

13. On XXXXXXXXXX, the Trust agreed to make a capital contribution to the Feeder Partnership in an amount equal to the principal amount and FMV of the Promissory Note. The Trust’s obligation to pay such capital contribution was set-off against the obligation by the Feeder Partnership to pay to the Trust the amount owing under the Promissory Note. As a result, the Trust became a limited partner in the Feeder Partnership. At that time, BCo’s limited partnership interest was redeemed for $XXXXXXXXXX. Accordingly, the Trust became the sole limited partner of the Feeder Partnership. The Trust’s interest in the Feeder Partnership is approximately XXXXXXXXXX%.

PROPOSED TRANSACTIONS

14. The Feeder Partnership will enter into hedging contracts (the “Off-Setting Hedges”) that are intended to hedge the Fund Hedges and result in the Feeder Partnership realizing a capital loss (or gain) in an amount equivalent to the Feeder Partnership’s indirect share of any capital gain (or loss) realized by the Fund from the Fund Hedges. As a result, for each XXXXXXXXXX-to-USD hedging contract that the Fund has entered into (or enters into in the future), the Feeder Partnership will enter into an offsetting USD-to-XXXXXXXXXX hedging contract. The Feeder Partnership will also enter into offsetting hedging contracts for each other non-USD-to-USD currency hedging contracts that the Fund has entered into. Due to timing and market conditions, the terms of any particular Off-Setting Hedge may differ slightly from the terms of the underlying hedge to which it relates, but it is intended that the Off-Setting Hedges will match the terms of the underlying hedges as closely as is practicable.

By way of example, if the Fund has entered into a hedging contract to convert XXXXXXXXXX to USD on XXXXXXXXXX and the Feeder Partnership’s proportionate share of this hedging contract would result in XXXXXXXXXX being converted to US$XXXXXXXXXX on XXXXXXXXXX, the Feeder Partnership will enter into an Off-Setting Hedge to convert US$XXXXXXXXXX to XXXXXXXXXX on XXXXXXXXXX. If the USD appreciates relative to XXXXXXXXXX so that XXXXXXXXXX is equivalent to US$XXXXXXXXXX on XXXXXXXXXX, the Feeder Partnership’s proportionate share of the gain realized by the Fund will be US$XXXXXXXXXX and the Feeder Partnership will realize a loss of (US$XXXXXXXXXX) on its corresponding Off-Setting Hedge, which will offset this gain.

The Off-Setting Hedges will not be considered to be property described in subparagraph 108(2)(b)(iii).

15. Each Fund Hedge and the corresponding Off-Setting Hedge will be settled on the same day or within 10 business days of the other. In addition, each Fund Hedge and corresponding Off-Setting Hedge will be settled in the same taxation year.

16. The Trust will acquire additional units of the XXXXXXXXXX ETF listed on the XXXXXXXXXX.

ADDITIONAL INFORMATION

17. The Trust reports its financial results for financial statement, other financial reporting and Canadian income tax purposes in CAD.

18. The Fund reports its financial results for financial statement and other financial reporting purposes in USD. The Fund reports for Canadian income tax purposes in CAD.

19. The taxation year-end of the Trust, the Feeder Partnership and the Fund is XXXXXXXXXX.

20. The Feeder Partnership’s assets consist of its interest in the Fund, cash or other property that it receives as a distribution from the Fund, the Off-Setting Hedges as described in Paragraph 14, and cash or near-cash assets.

21. The Fund Hedges and the Off-Setting Hedges will not be considered to be property described in subparagraph 108(2)(b)(iii). Accordingly, any income, including taxable capital gains, derived from, or from the disposition of, the Fund Hedges and the Off-Setting Hedges will not be income derived from, or from the disposition of, property described in subparagraph (iii).

22. The gains or losses realized by the Fund from the disposition of the Fund Hedges and the gains or losses realized by the Feeder Partnership from the disposition of the Off-Setting Hedges will be on capital account.

23. The capital gains and losses realized on the disposition of the Hedges will not be capital gains or losses described in subsections 39(2) or 49(2.1).

24. The Feeder Partnership will include in the calculation of its income and losses pursuant to section 96 for each taxation year, its proportionate share of all income, losses, capital gains and capital losses of the Fund based on the partner capital accounts in the Fund.

25. The Trust will include in the calculation of its income and losses pursuant to section 96 for each taxation year, its proportionate share of all income, losses, capital gains and capital losses of the Feeder Partnership based on the partner capital accounts in the Feeder Partnership.

26. Subsection 96(2.1) will not apply in respect of the Feeder Partnership’s share of any capital losses realized by the Fund in respect of the Fund Hedges.

PURPOSE OF THE SUBJECT TRANSACTIONS AND PROPOSED TRANSACTIONS

27. The Trust wishes to satisfy the conditions in paragraph 108(2)(b) in order to qualify as a Unit Trust.

28. The USD hedging undertaken by the Fund does not hedge the foreign exchange risk of the Trust and could result in the Trust being required to recognize a significant amount of income that is not derived from, or from the disposition of, property described in subparagraph 108(2)(b)(iii). The purpose of the Proposed Transactions is to generate capital gains and losses from the Offsetting Hedges that will offset capital losses and gains from the Fund Hedges, in order to eliminate as completely as is practicable the Trust being considered to earn income from, or from the disposition of, property that is not described in subparagraph 108(2)(b)(iii). By enabling the Trust to net capital gains and losses from the Off-Setting Hedges against capital losses and gains from the Fund Hedges, it is intended that not less than XXXXXXXXXX% of the Trust’s income will be considered to be derived from property that is described in subparagraph 108(2)(b)(iii).

RULING GIVEN

Provided that the preceding statements constitute a complete and accurate disclosure of all relevant facts, transactions, additional information and purpose of the Subject Transactions and Proposed Transactions, and that the Proposed Transactions are completed in the manner described above, and that there are no other transactions that may be relevant to the ruling given, our ruling is as follows:

A. The units of the XXXXXXXXXX ETF acquired by the Trust pursuant to the Proposed Transactions will be “marketable securities” for purposes of clause 108(2)(b)(iii)(E).

The above advance income tax ruling, which is based on the Act in its present form and does not take into account any proposed amendments thereto, is given subject to the general limitations and qualifications set out in Information Circular IC 70-6R12 Advance Income Tax Rulings and Technical Interpretations, dated April 1, 2022, and is binding on the CRA provided the Proposed Transactions are completed within six months of the date of this letter.

OPINION

Provided that our understanding of the facts, Subject Transactions and Proposed Transactions described herein is correct, it is also our opinion that, for the purpose of determining whether the Trust meets the requirements in subparagraph 108(2)(b)(iv) following the Proposed Transactions:

1. For the purposes of determining whether not less than XXXXXXXXXX% of the Trust’s income for a particular year was derived from, or from the disposition of, investments described in subparagraph 108(2)(b)(iii), the Trust’s share of any capital gains or capital losses realized by the Fund from the disposition of the Fund Hedges will be netted against the Trust’s share of any capital losses or capital gains realized by the Feeder Partnership from the disposition of the Off-Setting Hedges.

The above opinion should not be construed as an advance income tax ruling nor is it binding on the CRA.

COMMENTS

Unless otherwise expressly confirmed, nothing in this letter should be construed as implying that the CRA has confirmed, reviewed, made any determination, or accepted any method for the determination in respect of:

(a) whether the Trust is a resident of Canada;

(b) whether the property, referred to in Paragraph 5, or any other property held by the Trust, the Feeder Partnership or the Fund would, at any time, consist of the properties described in clauses 108(2)(b)(iii)(A) to (G);

(c) whether the Trust will be a Unit Trust pursuant to paragraph 108(2)(b);

(d) whether the Trust will at any particular time, be a mutual fund trust within the meaning of subsection 132(6);

(e) any of the tax implications associated with the Subject Transactions;

(f) any of the tax implications associated with Investor Trust;

(g) whether the gains and losses realized on the disposition of the Hedges are on capital account;

(h) whether the Off-Setting Hedges hedge the Fund Hedges;

(i) the effectiveness of the Off-Setting Hedges in achieving the objective described in Paragraph 14;

(j) the tax consequences of the Hedges other than as expressly provided herein;

(k) the example in Paragraph 14;

(l) the determination of the FMV of any property referred to herein;

(m) whether or not any persons referred to in this Ruling deal at arm’s length; and

(n) any other tax consequences relating to the facts, Subject Transactions and Proposed Transactions, or event taking place either prior to the Subject Transactions or subsequent to the Proposed Transactions, whether described in this letter or not, other than those specifically described in the ruling given above.

An invoice for our fees in connection with this Ruling will be forwarded to you under separate cover.

Yours truly,

XXXXXXXXXX
for Division Director
Financial Industries and Trusts Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch