CRA opines on a s. 108(2)(b) unit trust using a subsidiary LP to engage in hedging to offset hedging by an underlying fund investment, while avoiding net hedging gains for s. 108(2)(b)(iv) purposes

A mutual fund trust (the “Trust”) which intended to qualify as a closed-end unit trust described in s. 108(2)(b) was indirectly invested (through a subsidiary trust) in a Canadian partnership (the “Fund”) that entered into hedging contracts from time to time (the “Fund Hedges”) under which the currency of Fund investments were hedged back to US dollars. The Trust (which maintained its accounts in Canadian dollars) wished to neutralize the effects on it of the Fund Hedges while not at the same time realizing any significant income from doing so, keeping in mind that FX hedging gains are not “good” income for purposes of the 95% income test in s. 108(2)(b)(iv).

To this end, a restructuring was completed so that the Trust held its Fund investment through a subsidiary limited partnership (“Feeder Partnership”) rather than through a subtrust; then:

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.

CRA provided an opinion that for purposes of the 95% income test in s. 108(2)(b)(iv), “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.”

Neal Armstrong. Summary of 2025 Ruling 2022-0943251R3 under s. 108(2)(b)(iv).