CRA confirms that the use of s. 69(5) in post-mortem planning to realize a trust capital loss is not abusive

2012-0456221R3 concerned a spousal testamentary trust which held all the shares of a Canadian investment holding company (Holdco) on the death of the surviving spouse, so that the trust realized gain and an ACB step-up under s. 104(4)(a)(iii). A portion of the Holdco shares were to be transferred by the trust to a newly-incorporated unlimited liability company (Newco 2), with Holdco then redeeming its shares held by Newco 2 for cash and with Newco 2 then to be wound-up under s. 69(5) to realize a capital loss which would be carried back by the trust to reduce the s. 104(4)(a) gain. The s. 84(2) deemed dividend arising on the wind-up was to be allocated and distributed to the US trust beneficiaries, subject to the Treaty-reduced withholding of 15% pursuant to Art. XXII(2) of the Canada-US Treaty, and the corresponding distribution of paid-up capital distributions received by the trust was to be allocated and distributed to the Canadian-resident beneficiary.

In confirming that this position regarding the realization of the s. 69(5) loss was still valid in the context of such post-mortem planning, even if legal and commercial constraints prevent the winding-up of the corporation within three years of the death of the beneficiary spouse (although, of course, this would not be as good a result), CRA stated:

Where the conditions and technical parameters of subsection 40(3.6) apply, the Trust finds itself in a situation of immediate double taxation (capital gain on the death of the beneficiary spouse and deemed dividend on the redemption of the corporation's shares). … The CRA does not consider that the use of post mortem transactions to eliminate the capital gain arising on the death of the beneficiary spouse in order to limit double taxation at the trust level results in a situation of [GAAR] abuse … .

In 2013-0480361C6, CRA confirmed that s. 129(1.2) did not apply in the above situation. In also confirming this position, CRA stated:

Generally, where, in light of the facts and circumstances of a particular situation, post mortem planning is undertaken primarily to prevent the application of the loss limitation rule in subsection 40(3.6) to limit double taxation and, to the extent that the integration principle is respected, i.e., a corresponding tax is ultimately paid by the Trust on the deemed dividend received, the CRA would be of the view that the specific anti-avoidance rule in subsection 129(1.2) should not apply in those circumstances.

Neal Armstrong. Summaries of 10 October 2024 APFF Roundtable, Q.13 under s. 69(5) and s. 129(1.2).