Edited version of private advice

Authorisation Number: 1051530588765

Date of advice: 14 June 2019

Ruling

Subject: Foreign exchange loss

Question

Are you entitled to a deduction for a realised foreign exchange loss?

Answer

Yes

This ruling applies for the following period:

Year ending 30 June 2019

The scheme commenced on:

1 July 2018

Relevant facts and circumstances

You purchased a rental property in Australia "the property" which settled on an Australian currency loan account in some years ago.

When you purchased the property, you were a non-resident for taxation purposes.

You became a resident for taxation purposes in the following financial year, and you have remained a resident for taxation purposes since that time.

A couple of weeks after settlement, where you were a non-resident for taxation purposes, the loan was converted to a Country Y currency loan.

Some years, due to a policy change, your financial institution forcefully converted the loan back to an Australian currency loan, as they are no longer offering foreign currency loans to their customers.

Due to exchange movements losses were realised when the loan was converted back to an Australian currency loan account.

The conversion has resulted in a realised foreign exchange loss of approximately $X (as estimated by your financial institution).

The property has remained rented out, or has been made available for rent at all times since the property was purchased.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 775-30

Income Tax Assessment Act 1997 Subsection 775-30(2)

Income Tax Assessment Act 1997 Section 775-35

Income Tax Assessment Act 1997 Subsection 755-55

Income Tax Assessment Act 1997 Subparagraph 755-55(1)(b)(ix)

Income Tax Assessment Act 1997 Subsection 775-55(2)

Income Tax Assessment Act 1997 Subsection 775-55(5)

Income Tax Assessment Act 1997 Subparagraph 775-55(7)(8)(a)

Income Tax Assessment Act 1997 Section 775-75

Income Tax Assessment Act 1997 Section 775-95

Income Tax Assessment Act 1997 Section 775-105

Reasons for decision

Summary

Forex realisation event 4 occurs when an entity ceases to have an obligation to pay foreign currency.

In your case, as you incurred an obligation to pay foreign currency in 20XX (when the foreign currency loan was originally advanced), and then ceased to have an obligation to pay foreign currency (when the foreign currency loan was paid out and closed a few years later in 20XX), the resulting losses incurred due to exchange rate fluctuations are deductible to you under section 775-30 of the Income Tax Assessment Act 1997 (ITAA 1997).

Detailed reasoning

Forex realisation event (FRE) 4

Division 775 of the ITAA 1997 applies to the realisation of assets, rights (or part of rights) and obligations (or part of obligations) and explains how to calculate forex gains and losses that are attributable to currency exchange rate fluctuations. Loan accounts are considered to be an obligation.

Subsection 775-55(2) of the Income Tax Assessment Act 1997 (ITAA 1997) provides that forex realisation event 4 occurs when an entity ceases to have an obligation to pay foreign currency.

Subparagraph 755-55(1)(b)(ix) of the ITAA 1997 also provides that forex realisation event 4 can occur when an entity has incurred the obligation to pay foreign currency in return for receiving an amount of Australian currency or foreign currency.

Subsection 775-55(5) of the ITAA 1997 also provides that you make a forex realisation loss if the amount you paid in respect of the event happening exceeds the proceeds (worked out at the tax recognition time) of assuming the obligation or part of the obligation and some or all of the excess is attributable to a currency exchange rate effect. The amount of the forex realisation loss is so much of the excess as is attributable to a currency exchange rate effect.

Proceeds of assuming an obligation to pay foreign currency

Section 775-95 of the ITAA 1997 provides that the proceeds of assuming the obligation to pay foreign currency is the total money the entity receives or is entitled to receive in return for incurring the obligation.

Tax recognition time

Subparagraph 775-55(7)(8)(a) of the ITAA 1997 provides that where the obligation to pay the foreign currency was incurred in return for receiving Australian currency or foreign currency, the tax recognition time is the time you originally receive the Australian currency or foreign currency.

Currency exchange effect

Section 775-105 of the ITAA 1997 provides that the currency exchange effect is:

(a)  any currency exchange fluctuations; or

(b)  a difference between:

(i)            an expressly or implicitly agreed currency exchange rate for a future date or time; and

(ii)           the applicable currency exchange rate at that date or time.

Allowable deduction

Section 775-30 of the ITAA 1997 provides that forex realisation losses are deductible for Australian tax residents, however there are exceptions from the deduction being claimed, including where the loss is of a private or domestic nature (subsection 775-30(2) of the ITAA 1997), where it is made in the gaining or producing of exempt income or non-assessable non-exempt income (section 775-35 of the ITAA 1997), or on some short term forex realisation losses (section 775-75 of the ITAA 1997).

Application to your circumstances

In your case you originally incurred an obligation to pay foreign currency in return for receiving an amount of Australian currency when your Australian currency loan was originally converted to a Country Y currency loan. This is also known as the tax recognition time, and is covered in sub paragraph 775-55(7)(8)(a) of the ITAA 1997 (as noted above).

You then ceased to have the obligation to pay foreign currency when your Country Y currency loan was converted back to an Australian currency loan a few years later.

This is when FRE4 occurred in accordance with Subsection 775-55(2) of the ITAA 1997, as this is the time you ceased to have the obligation to pay the foreign currency.

As such, the refinancing of the Country Y currency loan back to the Australian currency loan caused forex realisation event 4 to happen during the year ended 30 June 2019.

Also, in your case the deduction will not be disallowed by subsection 775-30(2) of the ITAA 1997 or section 775-35 of the ITAA 1997, as the property has always been available for income producing purposes during the entire period of its ownership, therefore the loss is not of a private or domestic nature, and the loss was not made in the gaining or producing of exempt income or non-assessable non-exempt income.

Also, the deduction will not be disallowed by paragraph 775-30(2)(b) or section 775-75 of the ITAA 1997, as the obligation was not incurred in return for the acquisition of a CGT asset (such as foreign currency), or incurred as the second, third, fourth or fifth element of a CGT asset, as evidenced by the fact that you have only incurred the obligation to pay foreign currency in return for receiving an amount of Australian currency in order to convert your Australian currency loan into a foreign currency loan.

Therefore, the resulting losses incurred due to exchange movements are deductible to you under section 775-30 of the ITAA 1997.

Copyright notice

© Australian Taxation Office for the Commonwealth of Australia

You are free to copy, adapt, modify, transmit and distribute material on this website as you wish (but not in any way that suggests the ATO or the Commonwealth endorses you or any of your services or products).