30 September 1986 Income Tax Severed Letter

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.

TORONTO DISTRICT OFFICE R. A. Lawrie Chief of Audit

Doug Mitchell Basic Files

HEAD OFFICE Rulings Directorate Peter E. Salvatori (613) 957-9795

Arrangement Fee Paid for Swap Transaction

This is to reply to your memorandum of October 30, 1986 concerning the above captioned matter.

Further to your memorandum of July 17, 1986 and our reply dated September 30, 1986 you wish to know whether an arrangement fee paid upon entering into a swap transaction is deductible in the year in which it accrues or may be amortized over the periods covered by the arrangement. You suggest that such a fee might be regarded as interest or some other prepaid expense in circumstances where it is related to the payments a counterparty may be required to make in order to fulfil his commitments under the swap arrangement with the taxpayer.

So long as the payments undertaken by the counterparty and the taxpayer are matched in terms of timing, there can be no basis for treating the arrangement fee as prepaid interest. The fact that payments under the swap arrangement are not contemporaneous with payments required under the counterparty's agreement with a third party cannot inpute an element of interest in the taxpayer's payments to the counterparty. Payments of interest can only be made by one who has the use of money belonging to or due another. Because the payments under the swap arrangement are matched, the taxpayer cannot be regarded as enjoying the use of any funds belonging to the counterparty for any length of time.

A similar analysis leads to the conclusion that the arrangement fee is not a prepaid expense of any kind. Whether or not the arrangement fee is compensation to the counterparty in respect of the amount, the frequency, or the timing of the payments to be made by him to a third party, its impact upon the taxpayer factually and for tax purposes is that of an expense incurred to acquire the rights secured to the taxpayer under the swap arrangement itself. Thus it is part of the consideration provided by the taxpayer, as are the individual swap payments that he has undertaken to make, but it is not to be confused with or regarded as a prepaid portion of those payments.

In the result, we would conclude that the arrangement fee is properly a "running expense" of the business within the principle sat out in Oxford Shopping Centres Ltd. v. The Queen 79 DTC 5458 by Mr. Justice Thurlow. We note that the allowance of the deduction in full in the year in which such an expense is incurred is consistent with the Department's position that such fees are to be fully included in the recipient's income without benefit of a reserve under paragraph 20(1)(m) of the Act.

We trust that the forgoing comments are of assistance.

F. Lee Workman

Chief Financial Institution Section Financial Industries Division Rulings Directorate Legislative and Intergovernmental Affairs Branch