One question that constantly arises during income tax season is; what exchange rate should be applied to foreign transactions? The Canada Revenue Agency ("CRA") has re-iterated/set forth their position in respect of the translation requirements for capital gains and dividends and I discuss their views below.
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During a roundtable discussion at the October 2014 Association de Planification Fiscale et Financière (APFF) conference, the CRA was asked the following question:
Principales Questions: What is the CRA's position with respect to the use of average foreign exchange rates for the conversion of amounts of income and capital gains?
Position Adoptée: An average rate may be acceptable for items of income, but not for capital gains.
Raisons: The definition of relevant spot rate in subsection 261(1) provides that a rate other than the rate quoted at noon by the Bank of Canada at the relevant date may be used, provided it is acceptable to the Minister.
The above comment reflects that the CRA typically accepts the use of an average yearly rate for income items (dividends etc.) but expects you to use the Bank of Canada noon rate or other acceptable exchange rate in effect at the time of purchase and sale for any capital transaction.
While I would suggest that most accountants strive for reporting capital gains in this manner, many financial institutions and investment managers do not provide such information when they provide capital gain/loss summaries and thus, such reporting can be problematic. See this blog post by Justin Bender for an example of how financial institutions often report U.S. capital gains transactions.
I have also observed that when individual taxpayers prepare their own returns, very few report using the rate in effect at the time and most use an average exchange rate for the year for their capital gains reporting. Ignoring the ease of preparation, using an average rate can result in a significant under/over reporting of capital gains/losses where exchange rates fluctuate significantly.
I would thus suggest, you attempt to adhere to the CRA’s position of using the rate in effect at the date of transaction, especially for specific large transactions.
As noted above, the CRA stated at the roundtable that an average rate may be acceptable for items of income. John Heinzl of The Globe and Mail addressed this issue in a recent Q&A column.
Here is the question and answer.
Q: I hold some U.S. stocks in a non-registered account and pay U.S. withholding tax of 15 per cent on the dividends. My tax slips provide the dividend and tax information in U.S. dollars. Given the currency fluctuations we’ve seen recently, how do I report these amounts on my Canadian income tax return?
A: Because U.S. dividends do not qualify for the Canadian dividend tax credit, in a non-registered account you would pay Canadian tax at your marginal rate on the full amount of the U.S. dividend – just as if it were interest income. To avoid double taxation, you may be able to claim the 15-per-cent U.S. tax withheld as a foreign tax credit on line 405 of your return.
For tax purposes, you’re required to convert foreign income and foreign tax withheld to Canadian dollars, using the Bank of Canada exchange rate in effect on the transaction date.
However, according to the Canada Revenue Agency, if there were “multiple payments at different times during the year,” it is acceptable to use the average annual exchange rate. This simplifies the process of converting U.S. dividends and tax withheld to Canadian dollars.
You can find a list of average annual exchange rates on the Bank of Canada website.
Between the foreign exchange compliance and the T1135 Foreign Reporting requirements (see next week's blog post), it is enough to make one want to keep all their investments in Canada to avoid the complications of tax reporting :)
Capital Gains
During a roundtable discussion at the October 2014 Association de Planification Fiscale et Financière (APFF) conference, the CRA was asked the following question:
Principales Questions: What is the CRA's position with respect to the use of average foreign exchange rates for the conversion of amounts of income and capital gains?
Position Adoptée: An average rate may be acceptable for items of income, but not for capital gains.
Raisons: The definition of relevant spot rate in subsection 261(1) provides that a rate other than the rate quoted at noon by the Bank of Canada at the relevant date may be used, provided it is acceptable to the Minister.
The above comment reflects that the CRA typically accepts the use of an average yearly rate for income items (dividends etc.) but expects you to use the Bank of Canada noon rate or other acceptable exchange rate in effect at the time of purchase and sale for any capital transaction.
While I would suggest that most accountants strive for reporting capital gains in this manner, many financial institutions and investment managers do not provide such information when they provide capital gain/loss summaries and thus, such reporting can be problematic. See this blog post by Justin Bender for an example of how financial institutions often report U.S. capital gains transactions.
I have also observed that when individual taxpayers prepare their own returns, very few report using the rate in effect at the time and most use an average exchange rate for the year for their capital gains reporting. Ignoring the ease of preparation, using an average rate can result in a significant under/over reporting of capital gains/losses where exchange rates fluctuate significantly.
I would thus suggest, you attempt to adhere to the CRA’s position of using the rate in effect at the date of transaction, especially for specific large transactions.
Dividends
As noted above, the CRA stated at the roundtable that an average rate may be acceptable for items of income. John Heinzl of The Globe and Mail addressed this issue in a recent Q&A column.
Here is the question and answer.
Q: I hold some U.S. stocks in a non-registered account and pay U.S. withholding tax of 15 per cent on the dividends. My tax slips provide the dividend and tax information in U.S. dollars. Given the currency fluctuations we’ve seen recently, how do I report these amounts on my Canadian income tax return?
A: Because U.S. dividends do not qualify for the Canadian dividend tax credit, in a non-registered account you would pay Canadian tax at your marginal rate on the full amount of the U.S. dividend – just as if it were interest income. To avoid double taxation, you may be able to claim the 15-per-cent U.S. tax withheld as a foreign tax credit on line 405 of your return.
However, according to the Canada Revenue Agency, if there were “multiple payments at different times during the year,” it is acceptable to use the average annual exchange rate. This simplifies the process of converting U.S. dividends and tax withheld to Canadian dollars.
You can find a list of average annual exchange rates on the Bank of Canada website.
Between the foreign exchange compliance and the T1135 Foreign Reporting requirements (see next week's blog post), it is enough to make one want to keep all their investments in Canada to avoid the complications of tax reporting :)
Note: I have disabled the comment and question feature on the blog. Unfortunately, I just do not have the time to answer questions during income tax season. I will enable comments in May. Thank you for your understanding.
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This site provides general information on various tax issues and other matters. The information is not intended to constitute professional advice and may not be appropriate for a specific individual or fact situation. It is written by the author solely in their personal capacity and cannot be attributed to the accounting firm with which they are affiliated. It is not intended to constitute professional advice, and neither the author nor the firm with which the author is associated shall accept any liability in respect of any reliance on the information contained herein. Readers should always consult with their professional advisors in respect of their particular situation.Please note the blog post is time sensitive and subject to changes in legislation or law.
