April 19, 2004
Securities Lending Arrangements and Mutual Fund Trusts
The Department of Finance has proposed amendments to the Income Tax Act that address the consequences of lending certain trust units (for example, units of most income trusts, royalty trusts, and REITs) under certain types of securities lending transactions. These amendments had been expected since December 2002, when the Department of Finance indicated that it would propose a change in a comfort letter released to the public. Absent these proposed amendments, the lending of such units could result in the realization of taxable gains by the lender, and inappropriate tax treatment for any compensation payments received by the lender from the borrower. Income trusts, royalty trusts, and REITs have become quite prevalent in Canada's capital markets over the last few years. The proposed amendments are a welcome development, since they will facilitate the short selling of, and otherwise enhance the liquidity of the market for, these types of securities.
The proposed amendments provide that a unit of a mutual fund trust (within the meaning of the Income Tax Act) that is listed on a prescribed stock exchange (for example, the TSX) will be a qualified security for a securities lending arrangement. What this means is that a lender of such a trust unit under a securities lending arrangement will now be deemed not to have disposed of that trust unit. In addition, depending on the nature of the borrower of these types of trust units, any compensation payments received by the lender from the borrower under the securities lending arrangement will now, generally speaking, have the same character to the lender as if the lender continued to hold the particular trust unit that was loaned under the securities lending arrangement.
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