Regulation 7000 - Accrued Interest on Debt Obligations

The interest accrual rules for prescribed debt obligations generally will not apply to debt obligations (in this case, undivided interests in wholesale receivables sold to investors and payable on a floating interest rate basis) that pay a floating rate of interest to an investor on a monthly basis.

A stripped bond is a prescribed debt obligation under s. 7000(1)(b).

A taxpayer who acquires a bond whose interest coupons for the first ten years previously were stripped and sold separately will be required to accrue interest calculated in the manner prescribed by Regulation 7000(2)(b). When an interest coupon matures, the portion of the proceeds of disposition that reasonably may be considered to represent a recovery of the cost to the taxpayer is not included in income.

Both strip bonds and interest coupons which have been removed from them are prescribed debt obligations. When an interest coupon matures, the proceeds of disposition which represent a recovery of the cost need not be included in income.

"It is our position that an interest in an obligation which is issued at a discount and carries a stipulated rate of interest is not a prescribed debt obligation under subsection 7000(1) of the Income Tax Regulations ... . The determination of whether or not a true discount represents interest could not be made without knowing the nature or the activities and the legal obligations of both parties to a transaction ... ."

Although a note payable for property acquired that has a contingent interest payment based on an unknown amount would be a prescribed debt obligation under Regulation 7000(1)(d), because the amount of the interest that could be payable in respect of the current year cannot be calculated before the principal payment date, no information return is required to be filed under Regulation 201(4), and no amount is included in income under s. 12(4).

Canco advances the Loan to a related charitable foundation. The Loan is not issued at a discount and matures in X years. Are there any tax consequence to Canco to the Loan not bearing interest? CRA stated:

Where the cost of the Loan is less than the amount payable at maturity, there will be a deemed accrual under paragraph 7000(2)(a) of the Regulations. However, because the Loan was made between two non-arm's length parties, paragraph 69(1)(a)… may apply to reduce the cost of the Loan to Canco. If the Loan is not repayable at the demand of Canco, it is possible that the fair market value of the Loan could be less than the amount advanced by Canco under the Loan. If that is the case, then paragraph 69(1)(a)… could deem Canco to have acquired the Loan at a cost equal to the fair market value of the Loan, triggering the deemed accrual under paragraph 7000(2)(a)… .

A callable debt instrument provides for a rate of interest which will increase for each period except for one of the periods and (in a second case) for a rate of interest which increases in each period except that the issuer may increase the interest rate for each period. After noting that Reg. 7000(2)(c) would apply, as the interest was not fixed for at least one of the periods, CRA stated (TaxInterpretations translation):

[T]he issuer must annually calculate based on the interest rates known at the moment of calculation. When an instrument specifies a minimum rate for each year in its term, the calculation of the amount must be effected taking into account the maximum known rates. For the years for which the maximum rate is not yet known, it is the minimum rate which must be used in the calculation. In the situation where the debt instrument does not specify the rate of interest for certain periods, the amount must be calculated taking into account the known rate and taking into account the hypothesis that the rate, for periods where no rate is specifed, is nil.

Ruling respecting a stock-linked note where no return (other than in extraordinary circumstances) was payable until maturity, that so long as any variable return early payment amount does not become payable before the year in which the final valuation date occurs, no amount will be required to be included under s. 12(4) in the income of an individual note holder, and that the variable return will be required to be included under s. 12(1)(c) on maturity.

A bank GIC has a 3 year term, interest is calculated by reference to an increase in the value of a particular stock or stock index with no guaranteed annual interest, and with interest paid at maturity. Can the interest be apportioned over the three year term? CRA responded:

An equity-linked investment by an individual such as the one described in your letter is generally considered a prescribed debt obligation pursuant to paragraph 7000(1)(d) of the Regulations such that an amount of interest is calculated pursuant to paragraph 7000(2)(d)… . [S]ince the return on the equity-linked investment held by an individual as described in your letter was not known until the maturity date, no amount could be deemed to accrue under the rules set out in paragraph 7000(2)(d)…until the maturity date. Accordingly, the entire return on the investment is calculated and reported for income tax purposes in the taxation year into which such maturity date falls. There is no provision…[to] permit the interest amount…to be apportioned over multiple taxation years.

The amount payable on maturity on a stock-index linked GIC (which is deemed to be interest by Regulation 7000(3)) does not require any recognition of income in years prior to the year of maturity because "the maximum amount of interest that could be payable in the year with regard to the deeming provision in subsection 7000(3) of the Regulation is unknown". In the year of maturity, the full amount of the index-linked return is the maximum amount of interest that could be payable under the GIC for that year for purposes of Regulation 7000(2)(d).

The return on an index-linked note is capped at 90% of the principal amount. A representation is made that "the Return that the Holder can expect to receive on the Notes is indeterminable being an amount between 0% and 90% (inclusive) of the Principal Amount." Ruling that no amount will be required to be included in the Holder's income under s. 12(4) during the term of the Notes.