Norbert’s Gambit, explained

Norbert’s Gambit is a financial strategy used by investors to convert funds between Canadian and US dollars (or vice versa) in a cost-effective manner, minimizing the impact of currency exchange fees. This method is particularly popular among investors who trade on Canadian and US stock exchanges and wish to take advantage of lower foreign exchange fees compared to those typically charged by banks or currency exchange services.

The gambit works by buying a security that is listed on both a Canadian and a US stock exchange in one currency, and then immediately selling the same security on the other exchange in the other currency. One of the most commonly used securities for this purpose is the dual-listed stock of a large corporation or exchange-traded funds (ETFs) that are traded in both currencies. By doing so, the investor essentially converts their funds at a rate much closer to the market’s interbank exchange rate, with the main costs being the brokerage fees for buying and selling the shares, which can be significantly lower than the fees for a direct currency conversion.

It’s important to note that while Norbert’s Gambit can be an effective way to save on exchange fees, it does carry some risks and complexities. These include the potential for exchange rate fluctuations between the purchase and sale of the securities, as well as the need for a brokerage account that allows for trading on both Canadian and US exchanges. Additionally, executing the strategy requires a clear understanding of the process and careful planning to ensure that all steps are completed efficiently and effectively.

Investors considering Norbert’s Gambit should also be aware of the tax implications and any potential legal and regulatory considerations, especially regarding the declaration of foreign assets and income. As with any investment strategy, it’s advisable to consult with a financial advisor or a tax professional to fully understand the benefits and risks involved.

Tax implications of Norbert’s Gambit

The tax implications of Norbert’s Gambit, a strategy used to convert currencies at a lower cost by exploiting the price differences of a security listed in two different currencies, can vary depending on the investor’s specific situation and the jurisdictions involved. Here are some key considerations regarding the Canadian context:

1. Capital Gains or Losses: When you execute Norbert’s Gambit, you buy and then sell a security. If there is any difference in the value of the security from the time you buy it to the time you sell it, this could result in a capital gain or loss. Even small fluctuations in the exchange rate or the price of the security between the purchase and the sale can create a taxable event. In Canada, 50% of capital gains are taxable, while capital losses can be used to offset capital gains.
2. Currency Conversion for Tax Reporting: All transactions must be reported in Canadian dollars on your Canadian tax return. This means you’ll need to convert the proceeds of the sale, as well as the cost basis of the security purchased, into Canadian dollars using the Bank of Canada’s exchange rate applicable at the time of each transaction. Accurate record-keeping is essential to ensure compliance and to calculate any capital gain or loss correctly.
3. Wash Sale Rule: It’s important to note that Canada does not have a “wash sale” rule like the United States. In the U.S., selling a security at a loss and repurchasing the same or a “substantially identical” security within 30 days triggers the wash sale rule, disallowing the loss for tax purposes. However, Canadian investors should still be cautious and consult with a tax professional, as the Canada Revenue Agency (CRA) looks for transactions lacking economic substance or primarily intended to create an artificial loss.
4. Superficial Loss Rule: Canada has what’s known as the “superficial loss rule,” which can deny the claim of a capital loss if the security is repurchased within 30 days before or after the sale by you or an affiliated person and still held 30 days after the sale. While Norbert’s Gambit typically involves immediate selling after buying, investors should be aware of this rule when planning their transactions.
5. Dividend Withholding Tax: If the security used for Norbert’s Gambit pays a dividend during the period you hold it, there could be tax implications, such as withholding taxes. This is more relevant for longer holding periods or if the timing coincides with the security’s dividend schedule.

Due to the complexity and potential variations in individual circumstances, it’s advisable to consult with a tax professional or financial advisor to understand fully and navigate the tax implications of Norbert’s Gambit. They can provide personalized advice and ensure compliance with the Canada Revenue Agency’s regulations and requirements.