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: Can a designation of an amount under subsection 104(21.2) in respect of a beneficiary under a trust allow that beneficiary to take advantage of their lifetime capital gains exemption in a desired manner?
Position: No, the amount designated in subsection 104(21.2) will be equal to the particular beneficiary's proportionate share of all subsection 104(21) designations made by the trust in the particular year.
Reasons: The formulas in subsection 104(21.2) produce this result.
2022 STEP CRA Roundtable – June 15, 2022
QUESTION 1. Interaction Between Subsections 104(21) and 104(21.2)
Subsection 104(21) of the Income Tax Act (the “Act”) permits a trust to designate, in respect of a beneficiary under the trust, a portion of its net taxable capital gains (footnote 1) (“NTCG”). Where the designation is made, the amount designated is deemed, for the purposes of sections 3 and 111 of the Act (except as they apply for the purposes of determining whether a beneficiary is entitled to claim a capital gains exemption under section 110.6 of the Act (footnote 2) ), to be a taxable capital gain (“TCG”) for the year of the beneficiary from the disposition of capital property.
Given that a designation made pursuant to subsection 104(21) is not for the purposes of section 110.6, in order for a beneficiary under the trust to claim the lifetime capital gains exemption (“LCGE”) in respect of the TCG designated to them under subsection 104(21), a separate designation pursuant to subsection 104(21.2) of the Act must be made.
Consider the following facts:
1) A trust (“the Trust”) is an inter vivos, discretionary personal trust, resident in Canada;
2) There are 2 adult beneficiaries under the Trust (“Beneficiary A”; “Beneficiary B”), each of whom are resident in Canada;
3) Only Beneficiary B has access to their LCGE;
4) The Trust realizes two capital gains during the year, resulting in total NTCG to the Trust in the amount of $1,000,000, broken down as follows:
a) a $300,000 “regular” TCG, from the disposition of the shares of a publicly traded corporation; and
b) a $700,000 TCG resulting from the sale of qualified small business corporation shares (footnote 3) (“QSBCS”); and
5) The trust indenture permits the trustees to allocate and designate the NTCGs as follows:
a) The $300,000 TCG to Beneficiary A; and
b) The $700,000 QSBCS TCG to Beneficiary B (so that Beneficiary B may use their LCGE to offset as much of the gain as possible (footnote 4) ).
Does the formula in subsection 104(21.2) permit the trustees to allocate the NTCGs in the desired manner, or does the interaction of subsections 104(21) and 104(21.2) require a proration, such that the entire $700,000 QSBCS TCG cannot be designated to Beneficiary B?
CRA Response
Generally speaking, subsection 104(21) permits a trust resident in Canada to designate an amount in respect of the trust’s NTCG, for a particular taxation year of the trust if:
- the amount is designated by the trust in respect of a beneficiary under the trust who is resident in Canada;
- the designation is made in the trust’s return of income for the particular taxation year;
- the amount was included in computing the income for that taxation year of the beneficiary under paragraph 104(13)(a), subsection 104(14) or section 105 of the Act; and
- the total of all amounts designated by the trust in respect of each beneficiary under the trust for the particular taxation year is not greater than the trust’s NTCG for the particular taxation year.
When a designation is made under subsection 104(21) in respect of a beneficiary under the trust, the amount so designated is deemed to be a TCG for the taxation year of the beneficiary in which the particular taxation year ends, from the disposition of capital property.
For purposes of our response, we assume that all of the conditions in subsection 104(21) are satisfied, such that the Trust is able to designate for a particular taxation year:
- NTCG of $300,000 in respect of Beneficiary A; and
- NTCG of $700,000 in respect of Beneficiary B.
Where, for the purposes of subsection 104(21), a personal trust (footnote 5) designates an amount in respect of a beneficiary in respect of its NTCG for a taxation year (the “designation year”) a separate designation under subsection 104(21.2) must be made in the trust’s T3 Trust Income Tax and Information Return.
Subsection 104(21.2) sets out rules for determining the NTCG of a personal trust that, for the purposes of section 110.6, can be designated to the beneficiaries of the trust. This permits the beneficiary to claim the LCGE under section 110.6 in respect of a disposition by the trust of QSBCS or qualified farm or fishing property (“QFFP”).
Under subsection 104(21.2), the trust shall designate an amount in respect of its eligible taxable capital gains (footnote 6) , if any, for the designation year in respect of the beneficiary determined by the applicable formulas in clauses 104(21.2)(b)(ii)(A) for QFFP and (B) for QSBCS.
Very generally, the effect of each of these formulas is that the amount designated to a particular beneficiary is equal to the beneficiary’s proportionate share of all the trust’s subsection 104(21) designations for the year to its beneficiaries in respect of its NTCG for the year, to the extent that the amount so calculated represents eligible taxable capital gains of the trust for the year from the disposition of QFFP or QSBCS (depending on which formula is being applied).
As the above example deals with QSBCS, the formula in clause 104(21.2)(b)(ii)(B) applies:
(A x B x F ) / ( D x E )
For illustration purposes however, the formula can be re-written as follows:
A x B x F
D E
Element A establishes a cap on TCGs that must be designated among the beneficiaries under subsection 104(21.2) as the lesser of:
(i) the trust’s subsection 104(21) designations minus any subsection 104(13.2) designations, and
(ii) the trust’s eligible taxable capital gains for the designation year.
The fraction B/D produces the proportion of the QSBCS TCG to be designated to each beneficiary, whereby:
B is the amount, if any, of the trust’s subsection 104(21) designation in respect of the beneficiary that exceeds the trust’s subsection 104(13.2) designation for the beneficiary.
D is the sum of the amounts determined for B, for all beneficiaries.
The fraction F/E (footnote 7) is relevant where the trust has both QSBCS and QFFP gains. The F/E (footnote 8) calculation ensures that the amount determined for element A is split on a proportionate basis between the two formulas:
F is the amount that would be determined for the trust under paragraph 3(b) for the designation year if the only properties referred to in that paragraph were QSBCS.
E is the total of the amounts determined for C (footnote 9) and F in respect of the beneficiary.
Where the trust only has QSBCS gains and no QFFP gains, the fraction F/E will produce a result of 1 (footnote 10) .
In applying the numbers from the example, note that only element B is different for Beneficiary A and B.
Beneficiary A:
A x B x F
D E
= $700,000 x 300,000 x 700,000 .
1,000,000 700,000
= $700,000 x 0.3 x 1
= $210,000
Beneficiary B:
A x B x F
D E
= $700,000 x 700,000 x 700,000 .
1,000,000 700,000
= $700,000 x 0.7 x 1
= $490,000
Therefore, the subsection 104(21.2) designation in respect of Beneficiary B is limited to 70% of the Trust’s QSBCS TCG, or $490,000.
Dawn Dannehl
2021-092202
FOOTNOTES
Note to reader: Because of our system requirements, the footnotes contained in the original document are shown below instead:
1 Determined in subsection 104(21.3).
2 The designation is also subject to paragraph 132(5.1)(b).
3 Defined in subsection 110.6(1).
4 Although amounts designated by a personal trust under subsection 104(21.2) are for the purpose of section 3 as it applies for the purposes of section 110.6; the LCGE available to an individual in a particular taxation year is determined pursuant to subsections 110.6(2), (2.1) and (2.2).
5 Or a trust referred to in subsection 7(2).
6 Defined in subsection 108(1).
7 Or C/E, if computing the designation for QFFP TCGs.
8 and C/E.
9 In clause 104(21.2)(b)(ii)(A) Element C is the amount that would be determined for the trust under paragraph 3(b) for the designation year if the only properties referred to in that paragraph were QFFP.
10 Similarly, where the trust only has QFFP gains and no QSBCS gains, the fraction C/E will produce a result of 1.
All rights reserved. Permission is granted to electronically copy and to print in hard copy for internal use only. No part of this information may be reproduced, modified, transmitted or redistributed in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, or stored in a retrieval system for any purpose other than noted above (including sales), without prior written permission of Canada Revenue Agency, Ottawa, Ontario K1A 0L5
© Her Majesty the Queen in Right of Canada, 2022
Tous droits réservés. Il est permis de copier sous forme électronique ou d'imprimer pour un usage interne seulement. Toutefois, il est interdit de reproduire, de modifier, de transmettre ou de redistributer de l'information, sous quelque forme ou par quelque moyen que ce soit, de facon électronique, méchanique, photocopies ou autre, ou par stockage dans des systèmes d'extraction ou pour tout usage autre que ceux susmentionnés (incluant pour fin commerciale), sans l'autorisation écrite préalable de l'Agence du revenu du Canada, Ottawa, Ontario K1A 0L5.
© Sa Majesté la Reine du Chef du Canada, 2022
Email this Content