24 January 1996 External T.I. 9530685 - CHANGE IN USE - LIFE INTEREST

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.

RULINGS DIRECTORATE
CORRESPONDENCE SUMMARY

Principal Issues:

(1)Whether a life interest in real property is capital property

(2)Whether or not a change in the use of the property in which the life estate has been retained will trigger a capital gain. If a capital gain is triggered can the holder of the life estate in the real property elect under 45(2)?

(3)If a life interest in real property generates rental income should the holder of the life interest in the property claim the income or should the holder of the remainder interest in the property.

Position TAKEN:

(1) A life interest in real property is capital property

(2)Yes, a change in use will trigger a cpaital gain. An election may be filed under 45(2). It is possible to make a 45(2) election when there is a change in use from personal use to income producing whether or not the property qualifies as a principal residence.

(3)Generally, the holder of a life interest in a real property is also the beneficial owner of the property and would have the right to collect rents as a result of ownership of the life interest. The holder would accordingly be required to include the rent in income.

Reasons FOR POSITION TAKEN:

	Previous correspondence - 912658, 3-2926, EC3033, 	942917, 950163, 951574

		953068
XXXXXXXXXX	D. Zion

Attention: XXXXXXXXXX

January 24, 1996

Dear Sirs:

Re: Change in Use - Life Interest

We are writing in response to your letter of November 16, 1995 wherein you request that we confirm your understanding of a recent privately published technical interpretation summary which dealt with the above- noted subject.

The technical interpretation upon which the summary was based was provided in respect of a situation where the disposition of a remainder interest in real property and the retention of the life interest in the property occurred in 1985. Accordingly, the provisions contained in section 43.1 of the Income Tax Act (the "Act") did not apply to the situation because that section is only applicable to dispositions and terminations occurring after December 20, 1991.

It is the Department's view that a life interest and a remainder interest in real property constitute capital property. In the situation which was under review, at the time of the transfer of the remainder interest in the property with retention of a life interest therein, the transferor will be considered to have disposed of the property pursuant to previous paragraph 54(c) of the Act. The transfer will have taken place for proceeds, or deemed proceeds, of disposition equal to the fair market value (FMV) of the remainder interest at the time of the transfer, and the adjusted cost base (ACB) thereof, as provided by section 43 of the Act, would be such portion of the ACB of the whole property as may reasonably be attributed to that part at that time.

Interpretation Bulletin IT-437R discusses in paragraph 4, the subject of beneficial ownership. A property can be beneficially owned by an individual who is not the legal owner if the individual enjoys many of the rights and privileges and assumes some of the responsibilities of ownership. The main characteristics of ownership discussed in the bulletin include the right to possession, the right to collect rents, the right to call for mortgaging of the property, the right to transfer title by sale or by will, the obligation to repair and maintain the property, and the obligation to pay property taxes. It will be a question of fact as to whether the owner of the life interest in a property could be considered the beneficial owner of the property and thus eligible for the principal residence exemption upon disposition of the life interest in the property.

Contrary to your comments, when there is a conversion of the life estate in the property from a personal use property to an income producing property, the provisions of paragraph 45(1)(a) of the Act will be applicable with respect to the life estate in the property. A taxpayer may, pursuant to subsection 45(2) of the Act, elect in his or her return of income for the year not to have made the change in use. Generally it is our understanding that an individual who holds a life interest in the circumstances which were under review is entitled to collect the rents and, if such is the case, would be required to declare the rental income generated. It is not necessary that the personal use property qualify as a principal residence in order to elect under this provision. This election has the effect of avoiding the deemed disposition that would otherwise result under paragraph 45(1)(a) of the Act. Capital cost allowance with respect to the property may not be claimed while a subsection 45(2) election is in force since the property is still considered a personal use property.

The remainder interest in the property is a separate property from the life estate in the property in this situation and, accordingly, the remainder interest in the property will not be affected by the change in use by the owner of the life estate in the property.

If the transfer of the remainder interest occurred after December 20, 1991, subsection 43.1(1) of the Act is applicable and deems the life estate to have been disposed of for FMV at the time of the disposition of the remainder interest and to have been reacquired immediately after that time for that same FMV. Section 43.1 of the Act deems there to be a disposition, for capital gains purposes only, of the retained life interest, not the transferred remainder interest. The transfer of the remainder interest is an actual disposition and would result in proceeds or deemed proceeds of disposition equal to the FMV of the remainder interest at that time. The ACB thereof, as provided by section 43, would be such portion of the ACB to the taxpayer at that time of the whole property as may reasonably be attributed to that part. When you consider the actual disposition in conjunction with the deemed disposition, the overall picture is clearly that a capital gain has resulted in the hands of the transferor equal to that which would have resulted had the property been disposed of in its entirety at FMV in an arms length transaction.

Our views regarding the tax repercussions of a change in use from a personal use property to an income producing property and the possibility of an election pursuant to paragraph 45(2) of the Act would be relevant whether the disposition of a remainder interest in real property and the retention of the life interest in the property took place subsequent to, or up to and including, December 20, 1991.

These comments represent a general interpretation of the law and, as such, may not be applicable in every situation. The determination of the tax consequences of a particular situation can only be made following a review of all the relevant facts and documentation. Should you have a situation which involves actual taxpayers and completed transactions you may wish to submit all relevant facts and documentation to the appropriate Tax Services Office for their comments.

We trust our comments will be of assistance to you.

Yours truly,

P.D. Fuoco
for Director
Business and General Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch