1 December 2004 External T.I. 2003-0046171E5 - Contribution to Testamentary 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.

Principal Issues: Whether the direction from a beneficiary not to receive the income of the trust results in the trust not falling within the definition of "testamentary trust" in subsection 108(1)

Position: Depends of the circumstances

Reasons: When the amount is payable to the beneficiary, it will result in a contribution.

XXXXXXXXXX 								Pascal Tétrault
									2003-004617
December 1, 2004

Dear XXXXXXXXXX:

Re: Testamentary Spousal Trust

We are writing in response to your email of October 29, 2003 regarding the above captioned matter. More specifically, you have asked for specific comments regarding a technical interpretation letter, number 2002-0143255, issued from this Directorate.

The letter number 2002-0143255, dealt mainly with subsection 70(6) of the Income Tax Act (the "Act") and the election of a spouse not to receive the income of the trust with the result that such amount would be added the capital of the trust.

In your scenario, a trust is created where the spouse is entitled to receive all of the income of the trust that arises during her lifetime and no person, other that the spouse, may receive or otherwise obtain the use of the income of the trust before the spouse's death. Under certain circumstances and according to the discretion of the trustee, the spouse may sometimes receive some of the capital of the trust but no person, other that the spouse may receive or otherwise obtain the use of any capital of the trust before the spouse's death.

The trust instrument provides that the spouse may, in any calendar year, tell the trustee in writing that she does not require the income or any part thereof to be paid to her and in such a case the trustee is allowed to add that unclaimed income to the capital of the trust.

You have asked:

1) Whether the election of a spouse not to receive the income of the trust would prevent the trust from being a "testamentary trust" as per subsection 108(1) of the Act;

2) Whether the trust would be liable to tax regarding amounts subject to the election referred to in the preceding paragraph and in the affirmative, whether subsection 104(13.1) of the Act should be relied upon.

COMMENTS

The particular situation outlined in your letter appears to relate to a factual one, involving a specific taxpayer. As explained in Information Circular 70-6R5, it is not this Directorate's practice to comment on proposed transactions involving specific taxpayers other than in the form of an Advance Income Tax Ruling. Should your situation involve a specific taxpayer and a completed transaction, you should submit all relevant facts and documentation to the appropriate Tax Services Office for their views. Nevertheless, we are prepared to give some general comments that we hope will be of assistance.

The essence of your first question is whether the spouse, in electing not to receive the income of the trust, would be contributing to the trust within the meaning of paragraph (b) of the definition of "testamentary trust" in subsection 108(1) of the Act. The relevant part of the definition reads as follows:

"testamentary trust" in a taxation year means a trust or estate that arose on and as a consequence of the death of an individual (including a trust referred to in subsection 248(9.1)), other than

[...]
(b) a trust created after November 12, 1981 if, before the end of the taxation year, property has been contributed to the trust otherwise than by an individual on or after the individual's death and as a consequence thereof,

The issue of whether a contribution is made to a testamentary trust was addressed in Greenberg Estate v. R, [1997] 3 C.T.C. 2859 (T.C.C.). At p. 2864, Bowie TCJ stated:

I turn now to the meaning of the expression "...property has been contributed to the trust..." which is found in subparagraph 108(1)(i)(iii) of the Act. The word "contributed" in its plain meaning signifies a voluntary payment made to increase the capital of the estate [Oxford English Dictionary, 2nd Ed. Vol. 3 pp. 848-9]. The purpose of the provision is clearly to ensure that while certain beneficial treatment in relation to income tax is accorded to trust funds established on the death of a testator, the same benefit is not made available to inter vivos additions to those funds. In my view the repayment of an accidental overpayment to a beneficiary of a testamentary trust would not fall within the meaning of the expression "property ... contributed to the trust".

In your scenario, the issue becomes whether the election by the spouse not to receive the income of the trust results in a contribution of property by the surviving spouse that increases the capital of the trust.

Where the trust instrument provides that the spouse can elect not to receive the income of a trust for a specific year before the amount becomes payable, the election will result in a disposition of property for the spouse when that right is exercised. 1 However, such release or surrender would not generally be viewed as increasing the capital of the trust nor will it be considered as a contribution to the trust.

Where an amount becomes payable and the beneficiary advises the trustee that he or she does not want to receive the income of the trust, such action would result in a contribution to the trust. An amount payable by the trust is property to the beneficiary, which disposition in favor of the trust results in an increase in the capital of the trust.

Regarding your second question, once an amount becomes payable and the spouse elects not to receive it, such amount has to be included in the income of the spouse under subsection 104(13) of the Act unless an amount is designated under subsection 104(13.1) of the Act. Regarding the payment of tax by the income beneficiary as a consequence of the subsection 104(13.1) designation and the impact it may have on the qualification of the trust as a "testamentary trust", paragraph 19 of IT-381R3 - Trusts - Capital Gains and Losses and the Flow-Through of Taxable Capital Gains to Beneficiaries states:

An income beneficiary may agree to pay a trust's tax liability arising from a designation under subsection 104(13.1) or (13.2). Often this is done because the payment of tax by the trust would reduce the value of the capital interests held by other beneficiaries. The payment of tax by the income beneficiary is not a contribution for the purpose of paragraph (b) or (c) in the subsection 108(1) definition of "testamentary trust," nor is it a gift for the purposes of paragraph 122(2)(d). The payment must equal the tax payable by the trust on the income that is deemed not to have been paid or payable to the beneficiary because of the designation. The payment can be made by

(a) reimbursing the trustee,

(b) providing a cheque payable to the taxing authority, or

(c) receiving a net amount from the trustee reflecting the beneficiary's share of income less the relevant taxes payable by the trust.

For the purposes of this letter we have assumed that subsections 248(8) and (9) are not applicable because the period of 36 months has elapsed.

We hope the foregoing comments are of assistance.

Alain Godin
Section Manager
for Division Director
International and Trusts Division
Income Tax Rulings Directorate
Policy and Planning Branch

ENDNOTES

1 For more comments on this type of disposition see: Interpretation Bulletin IT-385R2 - Disposition of an Income Interest in a Trust.