20 April 2000 Internal T.I. 2000-0000217 - Offshore Trusts

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: With respect to a particular discretionary family non-resident trust where the contributor has recently immigrated to Canada:

1. Does 75(2) apply and if so, is there a 5 year exemption from tax for the immigrant?

2. To the extent that 94(1)(c) applies, what income is taxable in the trust?

3. To the extent that the trust provides for capital encroachment, will distributions in the 5-year period be considered capital such that any distribution is excluded from the beneficiary's income?

4. What are the tax implications to the trust when the contributor becomes resident in Canada (and when the trust becomes resident in Canada)?

5. What are the tax implications to the trust when the immigrant-contributor dies?

6. What are the tax implications if the trust is wound up?

Position: 1. Based on the information contained in the trust agreement submitted with the request in which it is established that the contributor is a capital beneficiary and has the right to appoint additional beneficiaries, 75(2) applies; since a resident of Canada is taxable on his or her world-wide income (subject to the modifications in 114 for the year in which the person become or ceased to be resident in Canada), there is no exemption for income earned by a non-resident trust which is attributed to the contributor under 75(2).

2. 94(1)(c)(i) sets out the income which is taxable under this provision and includes any taxable capital gain arising from the deemed disposition of properties (other than excluded properties) under section 104(4).

3. When a beneficiary is both an income beneficiary and a capital beneficiary, distributions by the trust (other than proceeds of disposition of a beneficiary's interest in the trust) will generally be considered to be a distribution of income and included in income under 104(13) to the extent of the trust's income for that year unless the amount is established to be a distribution of capital from a personal trust. This involves a finding of fact.

4. While there are no immediate tax consequences to a trust when the contributor becomes resident in Canada, the trust will be deemed to be resident in Canada when the conditions in 94(1)(a) and (b) are met; at that time, section 94(1)(c) will deem the trust to be resident in Canada for the whole year (even though the contributor may have been resident in Canada for less than 60 months for some portion of that year) and section 128.1(1) will apply to create a deemed disposition of all property held by the trust (other than TCP) before January 1st of that year such that any taxable capital gains or allowable capital losses accrued on property other than TCP prior to that date will not be included in the trust's income.

5. Attribution under 75(2) or 74.3(1) does not apply to the period following the contributor's death; however section 94(1)(c) will continue to apply unless the contributor was not resident in Canada in any of the 18 months preceding his or her death.

6. When 75(2) has applied to attribute the trust's income to a contributor, subsection 107(4.1) will generally apply to the distribution of any trust property to beneficiaries other than the contributor. Where the conditions in subsection 94(1) are met, the trust will still be deemed to be resident in Canada for the purpose of 94(1)(c) even if the trust is wound up and\or assets sold prior to the end of the 60-month period.

Reasons: 1. The application of 75(2) is not dependant on whether or not the trust would otherwise be taxable on the income so attributed (i.e. whether the trust is resident or not) and an immigrant to Canada is fully taxable on his or her world-wide income earned from the date of becoming resident in Canada.

2., 3 & 6. See comments under Position.

4. Because of the 60-month exemption, the trust has no change in residence at the time that the contributor becomes resident in Canada; however the trust does become resident in Canada on January 1 of the year in which the conditions in 94(1)(a) and (b) are met such that a deemed disposition under 128.1(1) occurs before the trust becomes resident in Canada.

5. Attribution only applies for the period throughout which the individual to whom the income is attributed is alive and resident in Canada; the criteria in 94(1)(b)(i)(A)(II) will continue to be met unless the individual had ceased to be resident in Canada more than 18 months prior to his or her death.

			April 20, 2000

	Calgary Tax Services Office	Headquarters
	Offshore Trust Project	Income Tax Rulings Directorate
			Annemarie Humenuk
	Attention: Dean Morrison
			2000-000021

XXXXXXXXXX

This is in response to your memorandum of December 12, 1999, concerning the questions posed by XXXXXXXXXX in his letter of November 29, 1999 concerning offshore or non-resident trusts established by an individual prior to becoming resident in Canada and the above-noted trust in particular.

In his letter, XXXXXXXXXX describes a trust resident in XXXXXXXXXX that was established by his client when the client was resident in XXXXXXXXXX summarizes many comments received by his client in respect of the taxation of non-resident trusts and asks us to provide a ruling in respect of the conclusions he has drawn from a review of these comments. In our conversation of January 11, 2000 (Morrison\Murphy), you noted that XXXXXXXXXX would also like information concerning the tax consequences related to a wind-up of such a trust. As stated in Information Circular IC 70-6R3 dated December 30, 1996, the confirmation of the tax consequences applicable to a particular transaction involving a specific taxpayer will only be provided in response to a request for an advance income tax ruling following the procedures outlined in that circular. However, we can offer the following general comments which may be of assistance to him in resolving his concerns. Please note that in this memorandum, all statute references are to the Canadian Income Tax Act and Regulations (R.S.C. 1985, 5th Supplement, c.1, as amended) (the "Act").

In the 1999 Federal Budget, major changes to the taxation of non-resident trusts were announced. However, we are unable to comment on the 1999 budget proposals until such time as the draft legislation is released. Accordingly, the comments which follow are based on the existing legislation and should be reviewed in light of the new proposals once the draft legislation is released.

As stated in Interpretation Bulletin IT-369R, Attribution of Trust Income to Settlor (as amended by special release dated June 24, 1994), subsection 75(2) essentially provides that any income or loss from property (or property substituted therefor), as well as any taxable capital gain or allowable capital loss from the disposition of that property (or property substituted therefor), is attributed to the person from whom the property was directly or indirectly received during the lifetime of the person while the person is resident in Canada if the terms of the trust are such that the property may revert to that person, may be distributed to beneficiaries determined by that person at a time after the trust was created or may only be disposed of with the consent of, or at the direction of, that person. Throughout this memorandum, we will refer to that person as the "contributor". If under the terms of a trust, there is a possibility, however remote, that the contributor may reacquire property (or property substituted for that property) which the contributor has directly or indirectly transferred to the trust, it is our view that the provisions of subparagraph 75(2)(a)(i) will apply during the period in which the contributor is resident in Canada. The application of subsection 75(2) is not dependant on whether or not the trust is resident in Canada or on whether or not the property was transferred to the trust while the contributor was resident in Canada.

With respect to the trust settlement document submitted with your request, subparagraph 75(2)(a)(i) would apply to attribute to the contributor any income earned by the trust on the property transferred by the contributor for the period during which the contributor was resident in Canada since the contributor is a capital beneficiary and may possibly reacquire the property so contributed (or property substituted for it). Additionally, the provisions of subparagraph 75(2)(a)(ii) apply since the contributor has retained the right to appoint additional beneficiaries during his lifetime (as described in the Second Schedule to the Settlement Agreement). As an immigrant is taxable on his or her world-wide income for each taxation year in which the individual is resident in Canada (subject to the modifications required under section 114 for the year in which the individual becomes or ceases to be resident in Canada), there is no period of exemption for the income of the trust that is attributed to an individual by reason of subsection 75(2) following that individual's immigration to Canada. However, as stated in paragraphs 5 and 6 of IT-369R, subsection 75(2) does not apply to any business income earned by the trust or to the income earned by the trust on the reinvestment of the income earned from the property transferred to the trust in circumstances described in subsection 75(2). We suggest that additional information, such as past income statements of the trust, would be required in order to determine the amounts to which subsection 75(2) applies since the trust settlement document indicates that the contributor only transferred XXXXXXXXXX to the trust yet the contributor received a $XXXXXXXXXX distribution in XXXXXXXXXX (and possibly other years based on the inference in the third paragraph on page 2 of XXXXXXXXXX letter).

Attribution may also apply in respect of any distributions from the trust to the contributor's spouse or a child beneficiary. As a general rule, when property is transferred to a trust for the benefit of the contributor's spouse or a beneficiary under the age of 18 who does not deal at arm's length with the contributor, any income earned by the trust from the transferred property which becomes payable to that spouse or child beneficiary is considered received by the spouse or child, as the case may be, but, by reason of subsection 74.3(1), is taxable in the hands of the contributor. When the income remains in the trust, subsection 74.3(1) does not apply. However, the attribution of income, under subsection 74.3(1) or any other provision, does not apply to any income earned by the trust following the death of the contributor.

To the extent that subsection 75(2) does not apply to all or part of the income of the trust, subsection 94(1) may apply to deem the trust to be resident in Canada for certain purposes (in particular, certain foreign reporting rules and the taxation of its income). Generally, this will occur when a resident of Canada is "beneficially interested" in the trust as that term is defined in subsection 248(25) such that the condition in paragraph 94(1)(a) is satisfied and an amount has been transferred to the trust by a person described in paragraph 94(1)(b) in the year or any previous year.

The determination of whether the "60-month exemption period" described in subclause 94(1)(b)(i)(A)(III) applies in respect of a contributor to a non-resident trust is made at the end of a particular taxation year (which is December 31 for an inter vivos trust). Where the total number of months in one or more periods in which a contributor to the trust was resident in Canada exceeds 60 months at any time in or before the end of a particular taxation year, the exception in subclause 94(1)(b)(i)(A)(III) does not apply to that taxation year. In this regard, we note that the references in XXXXXXXXXX letter to the contributor's period of residence in Canada are somewhat vague. While the determination of a person's place of residence is a question of fact, residence in a particular place does not generally include a period in which the person is simply visiting that place. See Interpretation Bulletin IT-221R2, Determination of an Individual's Residence Status, for further details.

When the criteria in paragraphs 94(1)(a) and (b) are met, a non-resident discretionary trust is deemed to be resident in Canada for the whole taxation year under paragraph 94(1)(c), and its taxable income is computed as the total of the three elements described under clauses (i)(A), (i)(B) and (i)(C) of that provision. This will generally result in the trust being taxed on its world-wide income (other than any active business income earned outside of Canada). In a taxation year in which subsection 104(4) applies, such a trust's income under subsection 94(1) includes its taxable capital gains from the deemed disposition of its properties (other than excluded properties). For the purpose of subsection 104(4), the 21-year period commences on the date specified in that subsection, which for this particular trust would be the day on which it was created. Where subsection 75(2) applies, such gains will be included in the income of the contributor rather than the trust.

Subsection 128.1(1) applies for the purposes of the Act and generally deems a trust which has become a resident of Canada (including a deemed resident) to have disposed of each property (other than property listed as an exclusion in paragraph 128.1(1)(b)) owned by the trust at that time for proceeds equal to the fair market value of the property. This should generally not give rise to any taxable income in the hands of a trust for the purposes of paragraph 94(1)(c) because the deemed disposition occurs immediately before the time that is immediately before the time at which the trust is deemed to become resident in Canada. However, since property described in subparagraphs 128.1(1)(b)(i) to (v) is not eligible for the deemed disposition and acquisition in paragraphs 128.1(1)(b) and (c) of the Act, such property will retain its original cost to the trust. Accordingly, any gain resulting from a subsequent disposition of the latter type of property, such as taxable Canadian property, will be fully taxable under the Act.

Paragraph 94(1)(c) will not apply if the trust is wound up while the trust is still a non-resident of Canada, that is on or before December 31 of the taxation year preceding the year in which the trust would have become a deemed resident. If the trust is wound up in the year it becomes a resident of Canada, including the scenario in which it is wound up before the end of the 60-month exemption period referred to in subclause 94(1)(b)(i)(A)(III), the trust will still be deemed to be resident in Canada under paragraph 94(1)(c) for that year. The taxation year of an inter vivos trust is December 31, regardless of when it is wound up. These comments apply whether or not the assets of the trust are sold for fair market value before the end of the 60 month exemption period. Based on our understanding that the contributor referred to in XXXXXXXXXX submission will have been resident in Canada for more than 60 months by the end of the current taxation year, the trust cannot avoid the application of paragraph 94(1)(c) by winding up during the current calendar year. In the event of the contributor's death, paragraph 94(1)(c) would continue to apply to deem the trust to be resident in Canada unless the contributor had not been resident in Canada in any of the 18 months preceding his death.

To the extent that a distribution received by a beneficiary who is resident in Canada is paid out of the income of the trust, such amount is included in that person's income under subsection 104(13) in the year in which the amount was so payable. Under paragraph 104(13)(c), a distribution from a non-resident trust to a Canadian resident beneficiary in the same taxation year in which the trust earns income will generally be included in the beneficiary's income regardless of the source to the trust of the funds so distributed, unless the distribution can be considered to be a distribution of capital by a personal trust or proceeds of disposition of the beneficiary's interest in the trust. Whether a particular amount is paid as a distribution of capital is a question of fact to be determined with reference to all the facts relevant to the particular situation.

You also asked for any comments which may be of assistance to the taxpayer in respect of the wind-up of the trust. Generally subsection 107(2), and not subsection 106(3), applies on the wind-up of a "personal trust" as defined in subsection 248(1) where a beneficiary has both an income interest and a capital interest in the trust and receives property of the trust in satisfaction of his or her interests. Where subsection 75(2) applied at any time to attribute any of the trust's income to the contributor, subsection 107(4.1) generally applies and the trust is deemed to have disposed of each property distributed to a beneficiary, for an amount equal to its fair market value at that time. The beneficiary is deemed to have acquired the property at cost equal to the trust's proceeds of disposition. The beneficiary's proceeds of disposition in respect of the capital interest in such a trust equals the trust's cost amount of the property so acquired less any debt assumed as a condition of the distribution of that property. This provision does not apply if the property (or property for which it was substituted) is distributed back to the contributor.

In summary, while a trust may be resident in a country other than Canada and be subject to the laws of that country, the trustee is liable for filing the required income tax returns on behalf of the trust and for the payment of any income tax payable by the trust under the Act. When paragraph 94(1)(c) applies, each person described in clause 94(1)(b)(i)(A) or (B) is jointly and severally liable for the payment of such tax to the extent of any amount received from the trust as a distribution or upon the disposition of that person's interest in the trust. In addition, a resident of Canada who, either before or after becoming resident in Canada, has transferred property to a non-resident trust is generally required to file information return T1141, Information Return in Respect of Transfers or Loans to a Non-resident Trust, for each taxation after 1995 in which the trust is a specified foreign trust as defined in subsection 233.2(1) and any resident of Canada who has received a distribution or a loan from a non-resident trust after 1995 is generally required to file information return T1142, Information Return in Respect of Distributions From and Indebtedness to a Non-resident Trust, for each year in which a distribution is received or the loan is outstanding.

For your information a copy of this memorandum will be severed using the Access to Information Act criteria and placed in the Legislation Access Database (LAD) on the CCRA's mainframe computer. A severed copy will also be distributed to the commercial tax publishers for inclusion in their databases. The severing process will remove all material that is not subject to disclosure including information that could disclose the identity of the taxpayer. Should your client request a copy of this memorandum, they can be provided with the LAD version or they may request a copy severed using the Privacy Act criteria which does not remove client identity. Requests for this latter version should be made by you to Jackie Page at (819) 994-2898. The severed copy will be sent to you for delivery to the client.

T. Murphy
Manager
Trusts Section
Resources, Partnerships and Trusts Division
Income Tax Rulings Directorate
Policy and Legislation Branch

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