Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.
Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.
Principal Issues:
1.(a)Where an interest in property was settled on trust upon death, who must file the capital gains election in respect of that interest.
(b)Where an interest in property was bequeathed to a taxpayer for his life, with the remainder interest to other taxpayers, who must file the capital gains election.
2.(a)Where a taxpayer has a life interest in a trust which holds an interest a farm, what are the tax consequences upon the taxpayer's death.
(b)Where a taxpayer has a life interest in property, what are the tax consequences upon the taxpayer's death.
3.(a)At what cost do the capital beneficiaries acquire the interest in the farm upon the death of the life tenant?
(b)At what cost do the owners of the remainder interest acquire the life interest in the farm upon the death of the life tenant?
Position TAKEN:
1.(a)The trust should, if it is a personal trust, file the capital gains election.
(b)Both the life tenant and the taxpayers who hold the remainder interests can file the capital gains election.
2.No tax consequences.
3.(a)Cannot determine at this time.
(b)There is no bump-up in the cost of the property to the owners of the remainder interest as a result of the death of the life tenant.
Reasons FOR POSITION TAKEN:
1.(a)The trust owns the interest in the farm.
(b)Both life interests and remainder interests constitute capital property.
2.For income tax purposes, taxpayer is not considered to have disposed of his life interest upon his death. The life interest simply expires.
3.(a)Cost may be different at the time the capital beneficiaries acquire the interest from the trust since the cost may be bumped-up by the capital gains election and/or the 21-year deemed disposition rule (if an election to postpone the deemed disposition is not filed under subsection 104(5.3) of the Act).
(b)There is no provision in the Act that increases the adjusted cost base of a property upon the death of a life tenant to reflect the increased value of the interests held by the owners of the remainder interests.
XXXXXXXXXX 5-942917
C. Chouinard
March 30, 1995
Dear Sirs/Madam:
Re: Capital Gains Election - Property in Trust
We are writing in response to your letter of November 2, 1994, in which you requested our comments on the capital gains election as it applies to property which was bequeathed by will to three sons.
In the situation you describe, a mother bequeathed a farm property in 1983 to her three sons, XXXXXXXXXX in equal shares. However, as regards XXXXXXXXXX share, the will provides that it is held in trust for XXXXXXXXXX two daughters. You indicated in a telephone conversation (Chouinard/XXXXXXXXXX) that you do not know whether XXXXXXXXXX share is trust property or whether XXXXXXXXXX has a life interest in respect of the 1/3 interest, the remainder interest being held by his two nieces. Accordingly, we will address your queries considering both alternatives.
More specifically, as regards the 1/3 interest bequeathed to XXXXXXXXXX you inquire whether XXXXXXXXXX or someone else should file the capital gains election. You further inquire whether XXXXXXXXXX estate will be liable for income tax with respect to his life interest upon his death. In addition, you ask what the adjusted cost base of the 1/3 interest will be when the property passes to the two nieces.
Written confirmation of the tax implications inherent in particular transactions are given by this Directorate only where the transactions are proposed and are the subject matter of an advance ruling request submitted in the manner set out in Information Circular 70-6R2. The following comments are, therefore, of a general nature only, and are not binding on the Department.
Trust Property
If a trust was created by virtue of your mother's will, whereby XXXXXXXXXX is a beneficiary for his life, with a gift over to his two nieces upon his death, XXXXXXXXXX 1/3 interest may constitute trust property.
With respect to your query as to who should file the election, if the 1/3 interest in the farm bequeathed to XXXXXXXXXX is trust property, the trust should, if it is a personal trust, file the capital gains election. "Personal trust" is defined under subsection 248(1) of the Income Tax Act (the "Act") as, generally speaking, a testamentary trust or an inter vivos trust. According to subsection 108(1) of the Act, a testamentary trust means "a trust or estate that arose on and as a consequence of the death of an individual...., other than (a) a trust created by a person other than the individual, (b) a trust created after November 12, 1981 if, before the end of the taxation year, property has been contributed to the trust otherwise than by an individual on or after the individual's death and as a consequence thereof, or....". Accordingly, if the trust in your situation meets the above-mentioned definition, the capital gains election in respect of the 1/3 interest in the property must be filed by the trust.
A personal trust making the election will have a deemed disposition of capital property owned on February 22, 1994, giving rise to a deemed capital gain in the trust. The deemed capital gain may then be designated under subsections 104(21) and 104(21.1) of the Act in favour of the beneficiary. The beneficiary may then claim the unused portion of his or her capital gains exemption to offset the gain.
Under subsection 104(21) of the Act, a trust may designate that part of any amount included in a beneficiary's income by subsection 104(13) or 104(4) or section 105 of the Act, as a distribution of net taxable capital gains realized by the trust. Generally speaking, this means that the taxable capital gain must be paid or payable to the beneficiary or must be the subject of a preferred beneficiary election. The preferred beneficiary election is an election made by a trust and a preferred beneficiary to have a portion of the trust's income, referred to as the "accumulating income", taxable in the hands of the preferred beneficiary rather than in the trust.
Deemed gains and other "phantom income" would not be recognized as income for trust law purposes. Consequently, in order to have an amount payable for purposes of subsection 104(24) of the Act, the terms of the trust must specifically permit an amount equivalent to the "phantom income" to be paid or payable or the trustees must have discretionary power to pay out amounts that are defined as income under the Act.
As regards the preferred beneficiary election, accumulating income as defined in subsection 108(1) of the Act, will include the deemed taxable capital gain created by the proposed subsection 110.6(19) election, except where a power to pay an amount equivalent to the deemed gain is exercised during the year. If the terms of a trust contain a power to encroach on capital for all beneficiaries and the interests of the capital beneficiaries are vested, then all beneficiaries (income and capital) may make a preferred beneficiary election with the trust in respect of the deemed taxable capital gain under subsection 104(14) of the Act with the amounts calculated in accordance with paragraph 104(15)(c) of the Act.
Therefore, although a personal trust can file the capital gains election, the question of whether the deemed capital gains can be flowed out to the beneficiary is one which is governed by the terms of the trust indenture. In your situation, we cannot determine whether XXXXXXXXXX or the two nieces would be able to use their remaining available capital gains exemption since it is not clear whether a trust was created and what the terms of the trust, if any, might be.
Upon XXXXXXXXXX death, his life interest in the trust will expire. Consequently, his estate will not be liable to tax on the property since, for income tax purposes, he will not be considered to have disposed of his life interest upon his death. When XXXXXXXXXX 1/3 interest in the farm passes to his two nieces, it will be transferred and distributed by the trust to the nieces pursuant to the provisions of paragraph 54(c)(v) and subsection 107(2) of the Act. Accordingly, the transfer of the 1/3 life interest in the farm to the nieces will not result in tax consequences to either the trust or the nieces. The trust will be deemed to have disposed of the 1/3 interest for proceeds equal to the adjusted cost base of the 1/3 interest to the trust and the nieces' adjusted cost base of the 1/3 interest will be the same amount. Although the cost to the trust of the 1/3 interest in the farm when it was acquired was equal to the fair market value of the interest at the time of death of the mother, it may be different when the nieces acquire the interest from the trust, since the cost may be bumped-up by the capital gains election and/or the 21-year deemed disposition rule (if an election to defer the deemed disposition is not filed under subsection 104(5.3) of the Act). Accordingly, it is not possible to determine the cost of the 1/3 interest in the farm to the nieces until such time as the interest is transferred to them.
In addition, upon acquiring XXXXXXXXXX 1/3 interest in the farm, the nieces will be deemed, pursuant to paragraph 107(2)(c) of the Act, to have disposed of their capital interests in the trust for proceeds of disposition equal to the cost of the property acquired, in this situation, the 1/3 interest in the farm, less the assumption of any debt or other outstanding obligation of the trust by the nieces, if the distribution of the property to the nieces is conditional on the assumption of such obligations.
Life Interest
If, on the other hand, XXXXXXXXXX has a life interest in his share of the farm property and his nieces have the remainder interest in the property, both XXXXXXXXXX and his two nieces can file the capital gains election since, in our opinion, both the life interest and the remainder interests constitute a capital property.
As regards the valuation of such interests, it is our opinion that the value of a life interest in real property at a particular time is the difference between the current value of the real property and the value of the remainder interest in the real property. The value of the remainder interest in the real property is determined by what a typical purchaser would pay for fee simple ownership in the property subject to a life interest of certain identifiable persons. This is the future value of the present worth of the real property calculated using the life expectancy of the life tenants and an appropriate discount rate.
At the time of XXXXXXXXXX death, his life interest will expire and automatically merge with the remainder interests to give his two nieces the whole interest in the property. Accordingly, since XXXXXXXXXX would not be considered to have disposed of his life interest, there would be no tax consequences to his estate upon his death. With respect to the nieces, since there is no provision in the Act to increase the nieces' adjusted cost bases of the property to reflect the increased value of their interests on XXXXXXXXXX death, the interests held by each of them will have an adjusted cost base equal to the aggregate of the fair market value of their remainder interests at the time of death of XXXXXXXXXX mother and, if the capital gains election is filed in respect of the remainder interests, the amount of the capital gain triggered by the election.
We trust that these comments will be of assistance.
Yours truly,
R. Albert
for Director
Business and General Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch
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