3 October 2000 External T.I. 2000-0013235 - Power appointment election opt out of 107(2)

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. Does 70(5) apply to a power of appointment and if so, how is it valued?

2. Can a non-resident trust opt out of the application of 107(2) so that the beneficary has an increased cost amount of property received from the trust?

3. Can the cost amount of assets received by the beneficary from the trust after the beneficary became resident in Canada be increased by the value of such assets at the time the beneficiary became resident in Canada?

Position: 1. No, but the existance of such a power may affect the value of any interest in the trust held by that person.

2. Yes.

3. No, but 128.1(1)(b) will apply to the beneficiary's capital interest in the trust provided that the interest is not TCP.

Reasons: 1. A power of appointment is not property but, depending on the facts, may influence the value of the person's interest in the trust.

2. The draft legislation released June 22, 2000 provides for an election in respect of the distibution of TCP and Canadian business property from an NRT- 107(2.001) - as well as for the distribution of other property from an NRT- 107(2.002).

3. The proposed amendments to 107(1.1) ensure that any increase in the cost amount of a capital interest in a personal trust as a result of immigration is preserved.

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                  2000-001323
Attention:  XXXXXXXXXX        Annemarie Humenuk

October 3, 2000

Dear Sirs:

Re: Distribution of Assets from a Non-resident Trust

This is in reply to your letter of February 10, 2000, in which you ask whether a power of appointment is considered to be capital property for the purposes of subsection 70(5) of the Income Tax Act and whether the draft proposals to section 107 will permit a Canadian resident beneficiary to elect out of the application of subsection 107(2) for property received from a non-resident trust. Alternatively, you ask whether the cost amount of such property received from a non-resident trust can be valued at its fair market value as of the date the beneficiary became resident in Canada.

All statutory references in this letter are references to the provisions of the Income Tax Act (the "Act").

The particular circumstances outlined in your letter appear to relate to a factual situation involving specific taxpayers. As explained in Information Circular 70-6R3, Advance Income Tax Rulings, it is not our practice to comment on a proposed transaction involving a specific taxpayer, except by way of an advance income tax ruling. When the transaction related to the enquiry is completed, the enquiry should be addressed to the relevant tax services office. In addition, it should be noted that the tax consequences relating to a trust cannot be determined without a complete review of all the relevant facts, including the entire trust document. As a result, we are unable to comment on the tax effect of partial excerpts from a particular trust document. Nevertheless, we offer the following general comments which may be of assistance to you.

In the fact situation you describe, an individual is entitled to all of the income of a non-resident trust, is a capital beneficiary of the trust and holds a limited power of appointment in respect of the trust's property which is exercisable through the individual's will.

The class of individuals who may be appointed as capital beneficiaries of the trust pursuant to the power of appointment include the individual's spouse, children and siblings as well as organizations that qualify as charities under the laws of the United States. For the purpose of your questions, it is assumed that the trust is a personal trust within the meaning of subsection 248(1) and is not subject to section 94. Although your description of the fact situation indicates that the individual is not entitled to any of the capital of the trust while the individual's parents, the settlors, are alive, the excerpt from the trust document submitted with your request suggests that the trustees have the power to encroach on the capital on behalf of the individual such that the individual's capital interest in the trust is not limited in the manner you suggest. The individual immigrated to Canada in 1999.

In our opinion, a power of appointment is not, in itself, property and thus is not subject to the deemed disposition rules in subsection 70(5). However, a power of appointment in respect of property held by a trust may affect the value of any interest in that trust that is held by the person who holds the power of appointment, particularly when no other person is entitled to any of the income or capital of the trust prior to that person's death. Depending on the circumstances, the value of the capital interest in the trust may equal the value of the trust's assets at the time the capital interest is being valued. Nevertheless, the valuation of an interest in a trust involves an analysis of all the relevant information and the exercise of judgement in determining the appropriate method of valuing such an interest. As a result, the CCRA is unable to provide or confirm the validity of any particular valuation used in the determination of the fair market value of any particular property.

With respect to your second question, the proposed legislation released by the Department of Finance on December 17, 1999, and included in the Ways and Means Motion introduced in the House of Commons on June 5, 2000, provides two elections which permit a taxpayer to elect out of the application of subsection 107(2). Proposed subsection 107(2.001) allows a trust resident in Canada which distributes property after October 1, 1996, in satisfaction of all or part of a beneficiary's capital interest in the trust to opt out of the application of subsection 107(2) in respect of that distribution. Proposed subsection 107(2.001) also applies to a non-resident trust which distributes either taxable Canadian property or property used in a business carried on by the trust through a permanent establishment in Canada in satisfaction of all or part of a beneficiary's capital interest in the trust. Proposed subsection 107(2.002) allows a beneficiary of a non-resident trust to opt out of the application of subsection 107(2) in respect of a post-1999 distribution of property that is not eligible for the election described in proposed subsection 107(2.001).

One of the main differences between the two elections is that the election under proposed subsection 107(2.002) is made by the beneficiary and the election under proposed subsection 107(2.001) is made by the trust. Another difference is that, under proposed paragraph 107(2.002)(b), the beneficiary's cost of the capital interest in the trust for the purpose of proposed subparagraph 107(1)(a)(ii) is deemed to be nil. This ensures that the appropriate amount of Canadian tax is paid in respect of a distribution which is subject to an election under proposed subsection 107(2.001) or (2.002), whether it is paid on the disposition of the property by the trust or on the disposition of the beneficiary's capital interest in the trust. In either case, the election must be filed in prescribed form on or before the relevant filing date.

When a beneficiary makes an election under proposed subsection 107(2.002) and subsection 75(2) does not apply to attribute the non-resident trust's income in respect of the disposition to a resident of Canada, proposed paragraph 107(2.1)(d) applies. As a result of the application of proposed paragraph 107(2.1)(d), no gain or loss is recognized by the non-resident trust on the distribution of the property and the beneficiary is deemed to acquire the property for an amount equal to its fair market value at that time. In addition, the beneficiary is deemed to have disposed of his or her capital interest in the trust for an amount equal to the fair market value of the property so distributed less any eligible offset as defined in the proposed amendments to subsection 108(1). The cost of the beneficiary's capital interest in a personal trust is deemed to be nil under proposed subsection 107(1.1) unless paragraph 107(1.1)(a) or (b) applies.

Thus, while the cost amount of a non-resident trust's property is not adjusted to reflect the value of such property when any of its beneficiaries become resident in Canada, the amount of capital gain realized by a particular beneficiary on the disposition of his or her capital interest in a personal trust is adjusted to reflect any increase in the cost of that interest as determined under paragraph 128.1(1)(c). Generally, unless the capital interest in the non-resident trust is taxable Canadian property as defined in the proposed amendments to that definition in subsection 248(1), paragraphs 128.1(1)(b) and (c) operate to increase the cost of a beneficiary's capital interest in a trust to reflect its value at the time the individual became resident in Canada. The increase in the cost amount, and thus the adjusted cost base of the capital interest in the trust, will decrease the amount of any capital gain realized on the disposition of such an interest.

We trust these comments will be of assistance to you.

Yours truly,

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

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