23 June 2005 External T.I. 2005-0125951E5 - reconcilation of the ACB of investor's MFT holding

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: How does an investor determine the amount of capital gain arising from a distribution of income from a unit trust?

Position: A capital gain arises when the ACB of the investor's interest is negative by reason of ss 40(3). Capital distributions, both the amounts shown in box 42 of the T3 slip and similar distributions received before 2004 will generally reduce the ACB of the interest. The investor is responsible for keeping track of the ACB of each investment. Where a multiple fund T3 slip is issued by a fund or an investment company, the slip should provide sufficient detail to determine the ACB adjustment, or capital gain, applicable to each investment.

Reasons: The enquirer was aware of the requirements but was having difficulty in obtaining the required information from the fund's trustee and\or the investment broker.

XXXXXXXXXX 	2005-012595
		Annemarie Humenuk
June 23, 2005

Dear XXXXXXXXXX:

Re: Taxation of Amounts Received from an Income Trust

This is in reply to your letter of April 14, 2005 concerning the taxation of amounts received from an income trust.

You note that one of the eight income trusts in which you hold an interest has an adjusted cost base (ACB) of nil. As a result, you have been informed that all income from this trust is to be reported as a capital gain. You are concerned as the T3 slip received in respect of this fund indicates that a portion of the amount received from this fund is to be reported as other income which would result in double taxation if the amount were also required to be included as part of the capital gain.

Written confirmation of the tax implications inherent in particular transactions can be provided by this Directorate where the transactions are proposed and are the subject matter of an advance income tax ruling request submitted in the manner set out in Information Circular 70-6R5, Advanced Income Tax Rulings, dated May 17, 2002. Where the particular transactions are completed, any inquiries should be addressed to the relevant tax services office. However, we are prepared to provide the following comments that may be of assistance to you. Please note that these comments are general in nature.

General information concerning the tax treatment of mutual fund trusts, including income trusts, is found in RC4169, Tax Treatment of Mutual Funds for Individuals, and can be accessed on the CCRA website at the following address: http://www.cra-arc.gc.ca/E/pub/tg/rc4169/README.html. In addition, the various companies promoting mutual fund trusts often have information on their websites explaining how the distributions are taxed.

As discussed with you on April 21, 2005 (XXXXXXXXXX\Humenuk), a distribution from a mutual fund trust may include a distribution of income and a return of capital. The income of the trust that is distributed to the unitholder is included in the unitholder's income as income. The T3 information slip will indicate if any portion of that income can be treated as something other than "other income" which is reported on line 130 as "income from a trust". Although the return of capital is not generally taxable immediately, it reduces the ACB of the units held, thus increasing the amount of capital gain that will be realized when the units are sold or redeemed. The example shown in RC4169, Tax Treatment of Mutual Funds for Individuals, and the December 31, 2004 adjustment in particular, illustrates the effect of a return of capital on the ACB of the units.

Effective for 2004, the amount of any return of capital is shown in box 42 of the T3 information slip. However, amounts received as a return of capital in previous years also reduce the ACB of the units held and the unitholder is responsible for determining the correct ACB of the units at all times. You have done this and have determined that the ACB of the units of one fund as of the end of 2003 was nil. When the amounts received as a return of capital (or any other adjustments which reduce the ACB of the units) exceed the unitholder's cost to acquire the units (adjusted for any amounts that increase the ACB of the units), subsection 40(3) of the Income Tax Act deems that excess (the "negative ACB") to be a gain which is required to be included in the unitholder's income as a capital gain for the taxation year in which the excess occurred.

In summary, the distribution of the income of the trust will be included in the unitholder's income as income in the manner noted on the T3 information slip (other income, dividends, taxable capital gains, etc.,) and a return of capital will reduce the ACB of the units held. To the extent that a particular return of capital reduces the ACB below zero resulting in a negative ACB, the unithholder is required to treat the amount of that negative ACB as a capital gain for the taxation year in which the excess occurred.

We trust our comments will be of assistance.

T. Murphy
Section Manager
for Division Director
International & Trusts Division
Income Tax Rulings Directorate
Policy and Planning Branch