CRA finds that stock market gains retain their excluded status for TOSI purposes when flowed through a trust

Jean on his decease left proceeds of an insurance policy and non-registered investments (which had been acquired by him out of accumulated savings) under a trust (“Trust”) for the exclusive benefit of his surviving spouse (“Jeanne,” also a Canadian resident), and with two of their children as trustees. Are the dividends and taxable capital gains generated by Trust from its investments in shares listed on a designated stock exchange, and interest on debt obligations, subject to the tax on split income (TOSI) when distributed to Jeanne qua beneficiary where the Trust investments are managed by: the two trustees; an independent third party; or a third child of Jean and Jeanne who is a stock broker?

CRA indicated that:

• The distributed dividends and capital gains qualified for the exclusion from the “split income” definition for dividends and capital gains from shares listed on a designated stock exchange (signifying inter alia that CRA accepted that taxable capital gains designated under s. 104(21) retained their character as stock market gains).
• As for the distributed interest income, it would of course not constitute income from a related business if Trust did not carry on a business.
• On the other hand, if Trust did carry on business then, subject to the next point, CRA after indicating that Jeanne’s children were “source individuals” in respect of her (i.e., related by blood), stated that if in the alternative management scenarios posed “a source individual in respect of Jeanne is actively engaged on a regular basis in the activities of Trust related to earning income from the business, then the portion of the Distribution related to the Interest would come, directly or indirectly, from a related business in respect of Jeanne” – so that, subject to the next point, Jeanne would have been subject to TOSI on the distributed interest” (apparently even in the child as stock broker scenario).
• However, even in the business income scenario, the distributed interest income would be excluded under s. 120.4(1.1)(c)(ii) because “the amount would have been an excluded amount in respect of an individual - Jean – who was, immediately before his death, Jeanne's spouse … if the amount were included in computing Jean's income for his last taxation year” (i.e., any such business would have been carried on by Jean himself rather than by a source individual).

Neal Armstrong. Summaries of 5 October 2018 APFF Financial Strategies and Instruments Roundtable, Q.3 under s. 120.4(1) – split income – (e)(ii)(C), related business – (a)(ii) and s. 120.4(1.1)(c)(ii).