12 April 2001 External T.I. 2001-0070425 - PRINCIPAL RESIDENCE HELD BY TRUST

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) Whether the transfer of capital property of an individual to a trust results in immediate income tax consequences; (2) Whether the principal residence of an individual transferred to a trust may be designated as such under section 54 of the Act on a subsequent sale by the trust.

Position: (1) Generally yes; (2) Generally, yes.

Reasons: (1) The definition of "disposition" generally includes a transfer of property from an individual to a trust, unless it is a "qualifying disposition" under the rules of proposed subsection 107.4(1) of the Act or is capital property transferred in circumstances to which proposed subsection 73(1.01) of the Act applies; (2) Section 54 of the Act generally provides that a trust can make a principal residence designation if, inter alia, the property otherwise qualifies as a housing unit, is ordinarily inhabited by a specified beneficiary and no other property has been designated by any specified beneficiaries. Subsection 40(4) of the Act applies for the purposes of computing the trust's gain under paragraph 40(2)(b) of the Act (i.e. the principal residence exemption).

XXXXXXXXXX 	2001-007042
		Patrick Massicotte
April 12, 2001

Dear XXXXXXXXXX:

Re: Principal Residence Exemption

We are writing in response to your letter of inquiry of January 6, 2001 sent to the Shawinigan Tax Centre and forwarded to our directorate on February 13, 2001. You asked whether the transfer of the ownership of your two residential properties to a trust established under the Civil Code of Quebec provisions would result in immediate income tax consequences and whether it would restrict the access to the principal residence exemption on a subsequent sale. You indicate that the trust would be a discretionary trust, the trustee would be a third party (such as your lawyer) and that you would be beneficiary of the trust.

Our Comments

The situations described in your letter appear to involve actual ongoing transactions. Written confirmation of the tax implications inherent in particular transactions is given by this directorate only where the transactions are proposed and are the subject matter of an advance ruling request submitted in the manner set out in Information Circular 70-6R4, dated January 29, 2001 (copy enclosed). Where the particular transactions are completed, the inquiry should be addressed to the relevant tax services office. Although we are unable to provide any opinion in respect of the specific transactions, we have set out some general comments that may be of assistance.

Generally, under the Income Tax Act (the "Act"), as it presently reads, a transfer of property from an individual to a trust involves a disposition at fair market value, unless there is no change in beneficial ownership. In Income Tax Technical News bulletin No.7 (February 21, 1996 - copy enclosed), the Canada Customs and Revenue Agency outlined its position in respect of transfers of property to certain types of trusts. Essentially, it was provided that where the beneficial ownership would be considered not to have changed upon a transfer of property, no disposition would be considered to have occurred.

For example, in the case of a transfer of property to a Protective Trust, we were of the opinion that there would be no disposition for income tax purposes if the following conditions were satisfied in respect of the trust arrangement:

• The settlor is the sole beneficiary of the trust;
• The settlor is entitled to so much of the annual income and any realized capital gains of the trust as he or she may request or, in the absence of such a request, such amounts as the trustees, in their absolute discretion, deem advisable;
• The property of the trust reverts to the settlor if the trust is terminated prior to the settlor's death;
• The trust will terminate upon the death of the settlor unless it is terminated at an earlier date. (When the settlor dies, any property held by the trust will devolve in accordance with the terms of the settlor's will or, if the settlor dies intestate, the property of the trust will devolve in accordance with the laws of intestacy that are relevant to the estate.)

In such cases, however, the trust will be recognized for tax purposes, it will be considered the owner of the property and the attribution rules under subsection 75(2) of the Act will apply. These rules provide that where property in a trust is held on condition:

"(a) that it or property substituted therefor may

(i) revert to the person from whom the property or property for which it was substituted was directly or indirectly received (in this subsection referred to as "the person"), or

(ii) pass to persons to be determined by the person at a time subsequent to the creation of the trust, or

(b) that, during the lifetime of the person, the property shall not be disposed of except with the person's consent or in accordance with the person's direction,..."

any income earned by the trust on the property or property substituted therefor and any taxable capital gains from the disposition of the property or property substituted therefor is deemed to be that of the person, while the person is alive and resident in Canada. Subsection 75(2) of the Act is discussed in Interpretation Bulletin IT-369R, Attribution of Trust Income to Settlor (copy enclosed).

Amendments to the Act were recently proposed such that transfers of property to a trust will generally be considered dispositions for the purposes of the Act even though the dispositions do not result in a change in beneficial ownership (Bill C-22 of March 16, 2001). These amendments will generally be applicable to transfers of property occurring after December 23, 1998. It is also proposed that where there is a disposition of property to a trust that does not result in a change in beneficial ownership, the property shall be deemed to have been disposed for proceeds equal to its fair market value (proposed subparagraph 69(1)(b)(iii) of the Act). Paragraph 69(1)(c) of the Act is also proposed to be amended to provided that a taxpayer who acquires a property in such a situation would be deemed to have acquired the property at that fair market value.

As a result of these rules, a transfer of property by an individual to a trust after December 23, 1998 would generally involve immediate income tax consequences to the individual, even though it would not result in a change in beneficial ownership, unless otherwise provided by the Act. In this regard, amendments are also proposed to be made to subsection 73(1) of the Act and to section 107.4 of the Act, which deals with "qualifying dispositions". Under amended subsection 73(1) of the Act, a transfer of capital property after 1999 to a trust described in subsection 73(1.01) of the Act will generally be eligible for a "rollover", unless the parties elect out of these provisions. Proposed subparagraph 73(1.01)(c)(ii) of the Act provides inter alia that the transfer of capital property by an individual to a trust under which "... the individual is entitled to receive all of the income of the trust that arises before the individual's death and no person except the individual may, before the individual's death, receive or otherwise obtain the use of any of the income or capital of the trust ...", may qualify for a "rollover" treatment if the conditions set out in proposed subsection 73(1.02) of the Act are met. These essentially provide that the trust must be created by the individual after 1999 and, either (i) the individual had attained 65 years of age at the time the trust was created, or (ii) the transfer does not result in a change of beneficial ownership and no person other than the individual has any absolute or contingent right as a beneficiary under the trust.

Proposed section 107.4 of the Act also provides, subject to a number of conditions contained therein, a similar "rollover" treatment for a "qualifying disposition", which concerns a disposition of any property by a person or partnership as a result of its transfer to a trust under similar circumstances (i.e. where inter alia the disposition does not result in a change in beneficial ownership, etc.) to which subsection 73(1) of the Act does not apply.

Pursuant to the definition of "principal residence" contained in section 54 of the Act, a personal trust, as defined in subsection 248(1) of the Act, may designate a property it owns as its principal residence for a year, for the purposes of the principal residence exemption, in certain circumstances (e.g. where it was ordinarily inhabited in the year by a specified beneficiary, where no other property has been designated by the trust's specified beneficiaries, etc.). These provisions are discussed in Interpretation Bulletin IT-120R5, Principal Residence (copy enclosed). Assuming that the other relevant provisions of the definition of a principal residence have been met, the principal residence exemption may be available to the personal trust for a particular taxation year in computing its gain, if any, under paragraph 40(2)(b) of the Act.

Where capital property is transferred to a trust in circumstances to which proposed subsection 73(1.01) of the Act will apply such that the provisions of subsection 73(1) of the Act will apply to the transfer, subsection 40(4) of the Act provides in general terms that for the purposes of computing any gain of the trust under paragraph 40(2)(b) of the Act that it may have realized from the subsequent sale of the property (i.e. the principal residence exemption):

(a) the trust will be deemed to have owned the property throughout the period during which the transferor owned it;

(b) the property shall be deemed to have been the trust's principal residence ... for any taxation year for which it was the transferor's principal residence, and

(c) the trust shall be deemed to have been resident in Canada during each taxation year during which the transferor was resident in Canada.

As a number of detailed provisions may or may not apply to the transactions described in your letter, and such a determination requires a review of all relevant facts of each particular situation (including the trust indenture and details relating to the ownership and use of the properties), we are not in a position to provide definite answers to the enquiries raised in your letter. Nonetheless, we hope that the above comments will be of assistance to you.

Yours truly,

Milled Azzi, CA
for Director
Business and Partnerships Division
Income Tax Rulings Directorate

c.c. Sylvie Bordeleau, Client Services
Shawinigan-South Tax Centre
- 4 -