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: Department's position on Kiwi Loans following Shell Canada cas at Federal Court
Position: Will consider application of GAAR in future
Reasons: Avoidance Transaction
TEI CONFERENCE
December 1, 1998
INTEREST EXPENSE - SHELL CANADA LIMITED
In Shell Canada Limited v. The Queen, 97 DTC 395, the taxpayer borrowed in New Zealand dollars (NZ$) and subsequently entered into forward contracts to purchase NZ$ to service the debt. In its decision, the Federal Court of Appeal (FCA) recharacterized as principal a portion of the nominal interest paid by Shell Canada on the NZ$-denominated loans. The Court based its decision on the interest-rate parity theory, which says that the differential between the forward and spot exchange rates of two currencies is a function of the interest-rate differential between the two currencies. Application of that theory led the Court to conclude that the rate of interest on the foreign currency borrowing, when combined with the forward contracts, was equivalent to the domestic rate of interest. Hence, to determine the true rate of interest paid and the proper amount of interest deduction, the transactions must be viewed in the entirety and the anticipated gain from the discounted forward rate on the currency must be taken into account.
Depending on their assessment of the future direction of interest rates and foreign exchange rates, commercial enterprises frequently borrow in currencies other than their functional operating currencies. We do not believe that Revenue Canada should be second guessing those financing decisions. Please confirm that, so long as there is no hedging transaction that converts the taxpayer’s net cost of borrowing in respect of a foreign currency denominated loan back to the functional currency (e.g. Canadian dollars for Canadian companies), Revenue Canada will not seek to deny a deduction for a portion of the interest paid to arm’s-length lenders.
Does Revenue Canada intend to apply the decision in Shell Canada and the interest-rate parity theory generally ?
Response
Where the particular currency that is borrowed is not used in the business but is immediately converted into the required currency, the Department will consider the application of the General Anti-Avoidance Rule in subsection 245(2).
P. Dunn
Section 42
File: 982994
November 19, 1998
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