Accounting/Income tax question (for Canadians)

[Alekbaylee]

Y'all!

 

Am in the process of filing my 2009 income tax statement and was wondering what would be more advantageous for me re-capital gains : taking the annual average US$-CAN$ exchange rate, or the actual exchange rate at the date of the transaction (buy or sale). The fact is the US/CAN $ exchange rate has moved up and down quite a few times during the 2009, from 1,25 to almost par, so I guess the choice may have a material effect on the check I'll be writing to CRA.

 

Thanks in advance.

 

Alek

[scorpioncapital]

You realize the first method is probably completely illegal...

[Vanshon]

Alek,

 

I was doing my taxes today and working out the exchange effects too.  Assuming you've got some gains from last year, no capital losses to offset them and your tax bracket is steady from year to year it makes sense to use whichever rate method minimizes your gains.  Why pay more than you have to?

 

Although it sounds illegal the CRA (our IRS) allows you to use either their published average rate ($1.14197729 for 2009 for US dollar transactions) or the actual rates at the time of the transaction.  There's not a lot of info on their website about it.  I'm just not sure if you can use two different methods for the buy and sell parts of the same transaction.  Anyone?

[bonechip1]

Although these articles are a little dated, you may find them helpful to clarify this situation:

 

http://www.jamiegolombek.com/articledetail.php?article_id=787

http://www.jamiegolombek.com/articledetail.php?article_id=576

http://www.jamiegolombek.com/articledetail.php?article_id=584

[scorpioncapital]

Income is different than capital gains. Capital gain cost basis must be calculated using the date of purchase/sale exchange rates.

[nodnub]

Income is different than capital gains. Capital gain cost basis must be calculated using the date of purchase/sale exchange rates.

 

Scorpion, are you sure that is the case? Have you spoken to someone at CRA about this... or can you point us to a publication or CRA guidance document that spells that out?  This is obviously an area of confusion.  I find that much information on CRA website is buried and very difficult to find.

 

 

 

[nodnub]

I just searched for this on my favourite website for personal Canadian income tax issues.  The following excerpt from TAXTIPS.CA seems to confirm exactly what Scorpion has stated.  You can choose daily rate or the annual average rate for income (dividends etc), but capital gains must be based on daily exchange rates at the time of purchase and time of sale.

---

The dividend income must be converted to Canadian dollars to determine the amount to include in your income.  You can convert using the exchange rates on the dates your foreign dividend income is received, or you can use the average annual exchange rate, as published by the Bank of Canada, for all the dividends received in the year.  See our Links page for links to foreign exchange rates.

 

The adjusted cost base of the foreign shares must be calculated in Canadian dollars.  If foreign funds were used to purchase the shares, the exchange rate on the date of the purchase (trading date, not settlement date) is used to convert to Canadian dollars.

 

When shares in the foreign corporation are sold, the proceeds are converted to Canadian dollars using the exchange rate on the date of the sale (trading date).

---

--

nodnub

[Vanshon]

I still think there's some flexibility on how you report foreign capital transactions.  This is from the CRA webite on Capital Gains:

 

Publicly traded shares, mutual fund units, deferral of eligible small business shares, and other shares Use this section to report a capital gain or loss when you sell shares or securities that are not described in any other section of Schedule 3. These include:

 

•publicly traded shares;

•units in a mutual fund trust;

•shares that qualify as Canadian securities or prescribed securities, if they are not qualified small business corporation shares or qualified family farm corporation shares; and

•shares issued by foreign corporations.

Report your gains or losses in Canadian dollars. Use the exchange rate that was in effect on the day of the transaction or, if there were transactions at various times throughout the year, you can use the average annual exchange rate.

 

http://www.cra-arc.gc.ca/tx/ndvdls/tpcs/ncm-tx/rtrn/cmpltng/rprtng-ncm/lns101-170/127/cmpltng/mtlfnds/menu-eng.html

 

 

[Alekbaylee]

You realize the first method is probably completely illegal...

 

Scorpion,

I called the CRA last week and they said I could use any of the two methods. When I asked which one was better, the lady responded "well, it's up to you to decide" or something to that effect.

Actually, was going to use the annualized average as it's much less complicated than the other method when you have to calculate every transaction almost twice (purchase/sale), but then it seemed to me that, because of the unusual moves of the canadian $ in 2009 (ups and downs), that using the actual exchange rate at the time of the transaction would be better for me (i.e. pay less tax). Hence my question.

 

I'll check/read all the info/links you guys posted (thanks!).

 

Alek

[scorpioncapital]

the info I've got on cap gains comes from a larger accounting firm and this is what they said needs to be done, however I will qualify that and say this is for a corporation not an individual so that may be different.

[Alekbaylee]

Alek,

 

I was doing my taxes today and working out the exchange effects too.  Assuming you've got some gains from last year, no capital losses to offset them and your tax bracket is steady from year to year it makes sense to use whichever rate method minimizes your gains.  Why pay more than you have to?

 

Although it sounds illegal the CRA (our IRS) allows you to use either their published average rate ($1.14197729 for 2009 for US dollar transactions) or the actual rates at the time of the transaction.  There's not a lot of info on their website about it.  I'm just not sure if you can use two different methods for the buy and sell parts of the same transaction.  Anyone?

 

Thanks Vanshon,

From your experience, was it better to use the annualized average or the actual exchange rate at the time of the transaction?

Something tells me the actual exchange rate at the date of the transaction should be better for us (i.e. pay less tax), but I'm not sure and want to avoid doing the whole work for nothing.

Otherwise, I know for sure that once you choose one method, you have to stick with it, i.e. you can't use both for the buy and sell parts.

 

Alek

[Alekbaylee]

Although these articles are a little dated, you may find them helpful to clarify this situation:

 

http://www.jamiegolombek.com/articledetail.php?article_id=787

http://www.jamiegolombek.com/articledetail.php?article_id=576

http://www.jamiegolombek.com/articledetail.php?article_id=584

 

Thanks bonechip1,

 

I think that answers my question and confirms my gut feeling...

 

http://www.jamiegolombek.com/articledetail.php?article_id=787

 

If the Canadian dollar continues to hold strong against the U.S. dollar until the end of the year, you may wish to sit down with your accountant and determine which conversion method gives the best results for you. Next April, that may depend on the amounts you received as well as the timing of those amounts.

 

For example, say Barb received a total of US$10,000 up to Aug. 31, 2007. Using the monthly average Bank of Canada exchange rate of $1.1147 to the end of August, she would report $11,147 of income.

 

Digging deeper, we learn that Barb had received US$8,000 of this income on Aug. 8, 2007 (rate $1.0499) and $2,000 back on Feb. 8, 2007 (rate $1.1853). Using the actual exchange rates on the dates Barb received her U.S. dollar income would translate to only $10,770, a reduction in income of $377 compared with the "average rate."

 

While the average rate method is more convenient, it may be worth the trouble of hunting down those historical rates as it might save you some tax.

 

Alek

[Vanshon]

Alek,

 

I used the average rate (about $1.14) as most of my transactions were in Feb/Mar of last year when the U.S. dollar was between $1.25 and $1.30 Canadian.  That allowed me to report my gains at about 10-15% less than they would've been using the actual exchange rates.  It is also a simpler way to do the calculations.

 

If most of the transactions were later in the year ($1.05-$1.10) or if you bought at $1.25 and sold when the dollar was $1.10, the actual rates would be better to reduce you gains.

 

Using the actual rates would probably work best for most people given that the Canadian dollar mostly got stronger through the year.

[Alekbaylee]

Alek,

 

I used the average rate (about $1.14) as most of my transactions were in Feb/Mar of last year when the U.S. dollar was between $1.25 and $1.30 Canadian.  That allowed me to report my gains at about 10-15% less than they would've been using the actual exchange rates.  It is also a simpler way to do the calculations.

 

If most of the transactions were later in the year ($1.05-$1.10) or if you bought at $1.25 and sold when the dollar was $1.10, the actual rates would be better to reduce you gains.

 

Using the actual rates would probably work best for most people given that the Canadian dollar mostly got stronger through the year.

 

Makes sense. Many thanks again.

[Uccmal]

Every year for the last five or so I have used the average rate for the year.  

 

As mentioned above this is completely legal and up to the option of the trader.  

 

I think the important thing is to remain CONSISTENT.  Dont change through the year or between years.  If you make a change for some reason stay with it afterwards.  I changed from transaction by transaction, to annual average, after realizing how cumbersome it was to do it on a daily basis then stick with your change.  

 

Some stocks I move in and out of taking advantage of price fluctuations to catch what appears to be a short term gain, or a capital loss.  For example I have bought a couple thousand shares of SSW at 8.50, sold 500 at 10.75, and bought another 1000 later at 8.70 (rough numbers).  The sheer number of trades and matching  the buys to the sells and then matching days to exchange rates gets very confusing and very error prone.  I probably have in the range of 300 trades with US securities this past year and I do my own taxes.  

 

It makes no sense for me to use an accountant because I am still going to have to work out 80% of this stuff.  

 

Something in one of our families tax returns gets audited every year pretty much but it has never involved anything to do with capital gains.  It always has to do with some sort of deduction such as medical or child care related.  

 

Generally it seems the government is happy to get their extra taxes from me that they get every year.  

 

 

[nodnub]

You realize the first method is probably completely illegal...

 

Scorpion,

I called the CRA last week and they said I could use any of the two methods. When I asked which one was better, the lady responded "well, it's up to you to decide" or something to that effect.

Actually, was going to use the annualized average as it's much less complicated than the other method when you have to calculate every transaction almost twice (purchase/sale), but then it seemed to me that, because of the unusual moves of the canadian $ in 2009 (ups and downs), that using the actual exchange rate at the time of the transaction would be better for me (i.e. pay less tax). Hence my question.

 

I'll check/read all the info/links you guys posted (thanks!).

 

Alek

 

Alek, there is really only one way to figure out which approach is more advantageous to you. You can use a spreadsheet to enter all your transactions and determine the taxable capital gains under both scenarios 1) average annual rate and 2) daily F/X rate.   It depends entirely on your purchase and sale history - no one here will have the information to tell you the answer.  Or you can pay an accountant to do it (at ~$200/hour).