Folio S6-F4-C1, "Testamentary Spouse or Common-law Partner Trusts," 3 February 2022

1.2-1.3 Indefeasible vesting requirement. The capital property distributed to the spouse trust etc. must vest indefeasibly in it within 36 months of the taxpayer’s death, subject to extension. “[V]ested indefeasibly refers to the unassailable right to ownership of a particular property that, in consequence of the death of the owner, has been transferred to a spouse trust of the deceased.”

1.6 Negative partnership ACB. Negative ACB on a partnership interest will be triggered when distributed.

1.13 Executor can have discretion as to what property is transferred to spouse trust. The executor is permitted to have the discretion as to which properties are to be transferred to the spouse trust with the will specifying only the total value, or portion, of the estate to be so transferred. The will may also direct the establishment and terms of a spouse trust but leave total discretion to the executor to select both the total value of and property to be transferred to the trust.

1.18 Non-application to substituted property. S. 70(6) applies on a property-by-property basis. Substituted property transferred to the spouse trust etc. would not qualify. For example, if a legal representative disposed of the assets of an estate of a deceased in order to transfer the proceeds of disposition (or property substituted for those proceeds) to a spouse trust created by the will of the deceased, subsection 70(6) would not apply.

1.26 Disqualification resulting from trustee discretion. The trust is disqualified by the existence of a power to encroach on the capital or income for the benefit of persons other than the spouse or common-law partner, prior to their death – or by a discretion of the trustee to allocate the trust’s income or capital among members of the deceased taxpayer’s family during the life of such individual.

1.27 – 1.29 Spousal discretion. Only the spouse can have discretion respecting trust income distribution. In order for a spouse or common-law partner to have a legal right to enforce payment of the income of the trust (as required under s. 70(6)(b)(i)), any discretion respecting distribution of trust income must be solely in that individual’s hands. However, retention of trust income at that individual’s direction does not disqualify it (although such income would still be included in the individual’s income under s. 104(24), absent a s. 104(13.1) election).

1.30-1.31- No limitations on spousal income entitlement. The terms of the trust cannot permit the trustee to restrict the payment to the spouse or common-law partner of any portion of the trust’s income, nor may the individual’s income entitlement be limited to a certain percentage of the value of the trust property.

1.32 Constructive receipt applied. The doctrine of constructive receipt is applied, for example, a payment of trust income according to the will to a person other than the spouse or common-law partner, on condition of its use solely for the individual’s benefit would not disqualify the spouse trust.

1.33 Funding of policy on spousal life not permitted. Where the trust terms permit the trustee to fund a life insurance policy held by the spouse trust on the life of the spouse or common-law partner, this would mean that a person other than that individual may obtain the use of trust capital or income, contrary to s. 70(6)(b)(ii).

1.34 FMV transactions. The renting of real estate at market value or the lending of money on commercial terms does not generally mean that the tenant or borrower has obtained the use of that property.

1.5 Making of election. The s. 70(6.2) must be made in the deceased’s regular income tax return for the terminal year of death, and is made on a property-by-property basis and not on a fraction of a property.

90-day test

1.10 Under the definition of common-law partner, once individuals begin to cohabit in a conjugal relationship they are deemed to continue cohabiting in that conjugal relationship until they live separate and apart for a period of 90 consecutive days because of a breakdown of their conjugal relationship. After this 90-day period has passed, the effective day of the change of marital status is the date the individuals started living separate and apart.

Does not apply if no court order

1.15 Paragraph 248(9.1)(b) applies to a trust established by a court order, in relation to the taxpayer’s estate, made under any law of a province that provides for the relief or support of dependants. Such a trust will be considered a trust created by the taxpayer’s will and thus may qualify as a spousal trust if other conditions are met. The same is not the case, for a variation of a trust made by agreement among the beneficiaries, even if made under variation of trusts legislation. A trust must qualify as a spouse trust under the original terms of the will and any changes to those terms by means of a variation obtained under variation of trusts legislation will not bring the trust within the wording of subsection 70(6).

1.21 Dividend exclusions. The effect of the dividend exclusions is that “a trust will not be precluded from qualifying as a spouse trust because under its terms, such dividends are not paid or payable to the spouse or common-law partner.”

1.22 Taxable capital gains. Taxable capital gains (which are not income under trust law) that are not payable to the spouse under the terms of the trust are necessarily taxed in the trust.

Examples of testamentary debts

1.38 Testamentary debts also include funeral expenses. They can also include testamentary expenses such as compensation paid to representatives for carrying out those duties which are normally exercised by an executor or administrator. These expenses would normally be permissible up to the point the estate properties are transferred or distributed to the beneficiaries, to the trustee of the tainted spouse trust, or to any other trust arising on death.

Examples where s. 70(7) cannot untaint

1.39 Not all tainted spouse trusts can be remedied by the rules provided in subsection 70(7). For example, a spouse trust cannot be untainted if it is tainted because certain types of obligations are to be met out of its property before the death of the spouse or common-law partner. Examples of such obligations include:

• a contingent liability to make good any deficiency that may arise in another trust created under the same will;
• a liability for the payment of trustee fees applicable to other trusts under the will; and
• an obligation to pay a bequest or legacy to another beneficiary out of the property of the estate that is held by the spouse trust.

Application of s. 70(6) rules to NISA

1.60 The income which would otherwise arise as a result of a taxpayer’s death, by virtue of the deemed payment out of the taxpayer’s NISA Fund No. 2 under subsection 70(5.4) can be deferred. The deferral is available if, on or after and as a consequence of death, the taxpayer’s NISA is transferred or distributed to his or her spouse, common-law partner, or to a spouse trust and the requirements of subsection 70(6.1) are met. The requirements applicable to a spouse trust in subsection 70(6.1) are the same as those applicable to a spouse trust in subsection 70(6), with the exception that subsection 70(6.1) does not contain any residency requirements … .

1.61 Alternatively, the deceased taxpayer’s legal representative may file an election under subsection 70(6.2) to have subsection 70(5.4) apply to the deceased’s NISA Fund No. 2. If subsection 70(5.4) applies, all amounts in the deceased’s NISA Fund No. 2 will be deemed to have been paid out to the deceased immediately before death. Such amounts will generally be required, under subsection 12(10.2), to be included in computing the deceased’s income for the year of death. The election under subsection 70(6.2) must be made in the regular income tax return for the year of death.

1.62 When a trust, which would otherwise qualify as a spouse trust under subsection 70(6.1), is tainted as a result of the payment (or provision for payment) of a testamentary debt, subsection 70(7) may be used to untaint the trust. This would permit the rollover provided in subsection 70(6.1).

Application of Art. XXIX B of the Canada-U.S. Treaty for US residents to access s. 70(6) rollover re TCP

1.63 … [F]or the rollover treatment in subsection 70(6) to apply on the transfer or distribution of property to a spouse trust, the taxpayer must be resident in Canada immediately before death. Furthermore, the trust must be resident in Canada immediately after the time the property vests in the trust. Subsection 70(6) may also apply on the death of a taxpayer resident in the United States. This is because paragraph 5 of Article XXIX B of the Canada‑US Treaty (the Treaty), deems the taxpayer to have been resident in Canada immediately before the taxpayer’s death. This would be relevant where the deceased individual held taxable Canadian property that was not otherwise exempt under the Treaty at the time of death.

1.64 Where a trust does not meet the requirements of subsection 70(6) because it does not reside in Canada, paragraph 5 of Article XXIX B of the Treaty allows the trust to submit a request to the Canadian Competent Authority. Upon receiving the request, the Canadian Competent Authority may enter into an agreement with the trust that the trust will be treated as being resident in Canada for the purposes of the Act for an agreed period of time and with respect to certain property.

Subsequent variation of trust does not prevent application of s. 104(4) on 21^st anniversary

1.68 It is the terms of the trust upon creation that determine the application of subsection 104(4), even if the terms of the trust are varied by agreement, legal action, or breach. For example, the wording of subparagraph 104(4)(a)(i) clearly provides for a deemed disposition date that is based on the terms of the trust at the time it was created.

Election to report s. 104(4) et seq. income on terminal return

1.69 Paragraph 104(13.4)(b.1), permits the trust and the legal representative administering the deceased beneficiary’s graduated rate estate to file a joint election to report all of the trust’s income arising from the application of subsections 104(4) to (5.2) or subsection 12(10.2) on the deceased beneficiary’s final T1 Return. The joint election is possible if all of the following conditions are met:

• Immediately before death, the beneficiary was a resident of Canada.
• The trust is, immediately before the death, a testamentary trust that is a post‑1971 spousal or common-law partner trust and was created by the will of a taxpayer who died before 2017.
• A copy of the joint election is filed with both the final T1 Return of the beneficiary and the T3 Trust Income Tax and Information Return for the tax year of the trust to which the deemed year end applies.

Where the election is made, the trust may deduct the corresponding amount from its income.