Although the rising loonie against the U.S. dollar has been a boon for
Canadian travellers heading south of the border, the results have not been so
favourable for Canadian investors with U.S.-denominated holdings or income such
as interest or dividends -- especially when converting back to Canadian funds.
Canadians who receive other sources of U.S. income, such as social security
payments or pension income, are also suffering. How must these amounts be
reported in Canada, and is there any possible tax relief?
The general principle governing foreign income received by Canadians is that
the income must be reported on your Canadian return in Canadian dollars. This
must be done either by converting the amount using the exchange rate that was in
effect on the day you received the income or, if income was received throughout
the year, by using the average annual exchange rate for the year. This gives you
some flexibility in choosing the most advantageous rate.
A recent tax case illustrates a somewhat unusual problem that faced a
Canadian employee who was paid in U.S. dollars and who suffered a foreign
exchange rate "loss" as a result.
In 2003, Peter Christie was employed for approximately six months for a Dutch
firm doing business in North America. Christie was a Canadian resident who
worked out of his home, spending about one week out of three travelling to the
United States. While in Canada, most of his time was spent communicating by
telephone and e-mail with U.S. customers and business contacts.
His Dutch employer had an affiliate company in the United States and found it
"convenient" to pay Christie through that affiliate in U.S. dollars. The
affiliate, believing that it had to withhold U.S. tax on the income (as it would
have done for a U.S. resident employee), remitted 30% on Christie's behalf to
the U.S. Treasury.
Christie earned a total of US$60,000 from the U.S. affiliate in 2003, from
which US$18,000 was withheld and remitted. When Christie filed his 2003 Canadian
tax return, he claimed a foreign tax credit of $25,226 (the exchange rate
equivalent of US$18,000) against his Canadian taxes payable.
The Canada Revenue Agency disallowed the foreign tax credit as the U.S. tax
should never have been withheld and paid and therefore, was not creditable in
Canada. Christie then applied for, and received, a full refund from the U.S.
Treasury of the US$18,000 in tax incorrectly withheld by his employer.
So why did Christie end up in tax court? Between the time that the tax was
withheld and when he obtained his refund, the Canadian dollar had increased in
value. The result was that the US$18,000 deducted at source was worth $25,226 at
the then-prevailing exchange rate. When he received the refund from the U.S.
Treasury in November, 2004, the amount was only $21,770 in Canadian funds.
Christie attempted to recover this foreign exchange "loss" on his Canadian
return.
Unfortunately, unlike foreign exchange losses on your investments, which may
be claimed on your Canadian return when calculating gains or losses on their
ultimate disposition, there was no similar relief available to Christie.
As the judge said, "While I have some sympathy for the position in which
[Christie] finds himself, there is no remedy for his problem available in this
court. His loss results from the fact that his employer ... chose to pay him
from the United States and to remit withholdings to the wrong government."