Utilizing Spousal Trusts for Estate Planning
If capital property of a taxpayer is transferred to a qualifying inter vivos spousal trust, s.73(1) of the ITA permits the property to be transferred at its adjusted cost base. This is also allowed in respect of its undepreciated capital cost where it is depreciable property of a prescribed class. Under subsection 73(1), the transferor can elect in his or her tax return, the year in which the property was transferred, to forego the rollover. In that event, s. 69 will apply to deem the transfer or gift to take place at fair market value.
The requirements to qualify as an inter vivos spousal trust are the following:
1) The transferor and the trust should be resident in Canada when the property is transferred to the trust;
2) the spouse should be entitled to receive all of the income of the trust earned before his or her death; and
3) while the spouse is alive, nobody can receive or use the income or capital of the trust.
Transfers to a Trust
Except for some exceptions given below, a transfer or gift of property to an inter vivos or testamentary trust is a disposition for tax purposes (ITA, s. 54). For details, the deemed disposition at fair market value rules of s. 69 of the ITA are to be considered. Property acquired by a trust from a person, with whom the trust does not deal at arm’s length, for a consideration exceeding the fair market value of the transferred property is deemed acquired by the trust at its fair market value (ITA, s. 69(1)(a)). Usually, the CRA assumes that the relationship between a settlor and a trust is non arm’s length, unless the facts show otherwise (CRA, Interpretation Bulletin IT-419 R-2, “Meaning of Arm’s Length”). Also, s. 251(1) of the ITA states that a taxpayer and a trust are deemed not to deal with each other at arm’s length if the taxpayer, or any person not dealing at arm’s length with the taxpayer, is beneficially interested in the trust. If property is sold to a trust by a non-arms length person at a price less than fair market value or given as a gift to the trust, there is a deemed realization at fair market value to the transferor. If a trust acquires property through a gift, bequest or inheritance, the property acquired is considered to be at its fair market value (ITA, ss. 69(1)(b) and (c)).
No Beneficial Ownership Change
Any transfer of property resulting in a change in legal ownership without any change in beneficial ownership is not a disposition, meaning that it is not taxable (ITA, s. 54).
Testamentary/inter vivos Spousal Trusts
A transfer of property to a qualifying inter vivos or testamentary spousal trust can be done on a tax-free basis with the spousal trust acquiring capital property at the adjusted cost base and depreciable property at the undepreciated capital cost of the transferor (ss. 70(6) and 73).
Alter Ego Trusts and Joint Partner Trusts
Gifts to an alter ego trust will qualify for rollover treatment, thereby avoiding the imposition of tax on accrued gains. An alter ego trust is a trust created after 1999 by an individual of at least 65 years. In such a trust, the individual gifting property to the trust is entitled to receive all the income of the trust prior to the death of the individual and should be the only person to receive income or capital of the trust prior to the death of the individual.
A gift of assets to a joint partner trust is also eligible for rollover treatment, thereby avoiding the imposition of tax on accrued gains. A joint partner trust is also a trust created after 1999 by an individual of at least 65 years. In this type of trust, until the death of the surviving spouse, both spouses in all possible combinations are entitled to receive the entire income of the trust or its capital.
In particular instances, the alter ego and joint partner trusts provide a significant estate planning tool for individuals trying to avoid probate taxes or the public disclosure of assets inherent in the probate process. Like a qualifying spousal trust, alter ego and joint partner trusts also aim to provide for contingent beneficiaries who will be entitled to receive income and capital of the trust after the death of the individual or the surviving spouse, whichever is applicable. Thus, the assets of the trust would effectively bypass probate, provided that the trust is a true inter vivos trust.
Deemed disposition of assets on death is not avoided by the provisions of such trusts; the deemed disposition occurs at the same time as it would have occurred if no trust had been established. The alter ego trust is deemed to dispose of its assets on the death of the individual establishing the trust, while a joint partner trust is deemed to dispose of its assets on the death of the surviving spouse. The 21-year deemed disposition of trust property is not applicable to these trusts created for individuals at 65 and above.
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