Issue
Where a taxpayer disposes of a right to receive foreign currency and makes a forex realisation gain, as part of an overall capital gain, under subsection 775-40(4) of the Income Tax Assessment Act 1997 (ITAA 1997), how is that part of the gain which is attributable to a currency exchange rate effect determined?
Decision
That part of the overall capital gain on disposal of the right to receive foreign currency that is attributable to a currency exchange rate effect is determined by the following formula:
Forex realisation gain (amount attributable to a currency exchange rate effect) = Overall capital gain less non-forex capital gain
Where:
non-forex capital gain = (foreign currency amount received on disposal less foreign currency cost of acquisition) translated to Australian currency using the exchange rate at the time of disposal of the right.
Facts
An entity acquires a right to receive foreign currency for USD100 when the exchange rate is AUD1.00 = USD0.80. The entity disposes of the right six months later when its value is USD110, and the exchange rate has moved to AUD1.00 = USD0.60.
The right to receive foreign currency is not a 'traditional security' for the purposes of sections 26BB and 70B of the Income Tax Assessment Act 1936 (ITAA 1936).
Reasons for Decision
The disposal of the US denominated right by the entity constitutes forex realisation event 1 (FRE1) as there is a disposal of a right to receive foreign currency (paragraph 775-40(1)(b) of the ITAA 1997).
Subsection 775-40(2) of the ITAA 1997 provides that, inter alia, for the purposes of this section, subsection 104-10(2) of the ITAA 1997 is used to work out whether the entity has disposed of the right to receive foreign currency.
The event occurs when the right is disposed of (subsections 775-40(2) and 775-40(3) of the ITAA 1997).
The entity makes a forex realisation gain if it makes a capital gain from the event, and some or all of the capital gain is attributable to a currency exchange rate effect. The amount of the forex realisation gain is so much of the capital gain as is attributable to a currency exchange rate effect (paragraphs 775-40(4)(a) and 775-40(4)(b) of the ITAA 1997).
Here, there is a currency exchange rate effect because of a currency exchange rate fluctuation (paragraph 775-105(1)(a) of the ITAA 1997).
The entity makes an overall capital gain on the disposal of the right, which is calculated by translating each element at the exchange rate applicable at the time of each transaction or event (subsection 960-50(6) Item 5 of the ITAA 1997). The translated amounts are then compared to ascertain the amount of any capital gain or loss that is made on the disposal of the right, as follows: Overall capital gain = USD110/0.60 less USD100/0.80 = AUD183.33 - AUD125 = AUD58.33
Overall capital gain | = USD110/0.60 less USD100/0.80
= AUD183.33 - AUD125
= AUD58.33
Forex realisation gain (amount attributable to a currency exchange rate effect) =
Overall capital gain less non-forex capital gain
where
non-forex capital gain = (foreign currency amount received on disposal less foreign currency cost of acquisition) translated to Australian currency using exchange rate at the time of disposal of the right.
The non-forex capital gain is therefore calculated by determining the AUD value of the net amount of the gain in USD terms on disposal of the right, using the applicable translation rate at that time. That is, using the formula above: Non-forex capital gain = USD110 - USD100) / 0.60 = AUD16.67 Forex realisation gain = AUD58.33 less AUD16.67 = AUD41.66
Non-forex capital gain | = USD110 - USD100) / 0.60 | = AUD16.67
Forex realisation gain | = AUD58.33 less AUD16.67 | = AUD41.66
That part of the capital gain which is attributable to a currency exchange rate effect is therefore AUD41.66, and is included in the entity's assessable income under Division 775 of the ITAA 1997 (subsection 775-15(4) of the ITAA 1997). Only the non-forex capital gain is included in the entity's assessable income under Division 100 of the ITAA 1997.