XXXX
K.H. Major (613) 995-1787
October 3, 1985
Dear XXXX
This is in reply to your letter of June 24, 1985 in which you request the Department's position with respect to the application of subsection 39(2) and paragraph 40(2)(e) of the Income Tax Act (the Act) in the following hypothetical situations:
A. A Canadian corporation (the parent) loans surplus U.S. funds to a wholly-owned Canadian subsidiary (the subsidiary) to be used by it in its day-to-day operations. The debt is denominated in U.S. dollars and must be repaid by the subsidiary in U.S. dollars. At the time of the repayment the Canadian dollar has strengthened.
B. Instead of loaning the surplus U.S. funds to the subsidiary the parent invests in preferred shares of the subsidiary and these shares must be redeemed by the payment of U.S. dollars in an amount equal to the amount of U.S. dollars invested. At the time the shares are redeemed the Canadian dollar has strengthened.
In situations A and B, it is our view that the provisions of subsection 39(2) of the Act would apply to the parent. Assuming that in the same taxation year as the debt repayment or the share redemption the parent had no other capital foreign currency transactions in which it made a foreign exchange gain or sustained a foreign exchange loss, the amount of the loss would be deemed to be a capital loss from the disposition of currency. In addition it is our view that paragraph 40(2)(e) of the Act would not apply to deny that loss to the parent.
In case A the provisions of subsection 39(2) of the Act would apply to the subsidiary and assuming that in the same taxation year as the debt repayment the subsidiary had no other capital foreign currency transactions the gain recognized would be deemed to be a capital gain from the disposition of currency.
With respect to the subsidiary and case B it is our view that a corporation can not make a gain or sustain a loss on the redemption of its own shares and therefore the provisions of subsection 39(2) do not apply.
We trust that this information will be of assistance to you.
Yours truly,
for Director Specialty Corporations Rulings Division Corporate Rulings Directorate Legislation Branch