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.
1. Was the subsection 104(5.3) election valid?
2. If an election was not valid, can it be disregarded?
3. What is the effect of subsection 107(2) with respect to distributions after Jan.1/99?
1. It may very well have been valid.
2. It is not evident that the election was not valid, so the appropriate course of action may be to have the election considered for revocation under the “fairness” provisions.
3. Where an election was filed under subsection 104(5.3) after February 1995, paragraph 104(5.3)(b) states that subsection 107(2) does not apply to any distribution made “during the period” which ends, at the latest, on January 1, 1999. At the end of that period, subsection 104(4) will deem the trust to have disposed of each property described therein for proceeds equal to its fair market value and to have reacquired it for that same amount. Thus, except as provided for in paragraph 104(5.3)(b), it is not possible to avoid a fair market value realization.
1. It is not evident that a “disposition day” would not have occurred if a subsection 104(5.3) election had not been filed, since one would have to examine the terms of a particular trust agreement to determine whether all of the interests had vested indefeasibly and whether there was any interest which could become effective in the future. For instance, is there some discretion that can be exercised in determining which beneficiary is entitled to the income? Also, is there a possibility of encroachment? In the face of uncertainty in a fact situation, the trustees might have chosen to elect under subsection 104(5.3) in order to ensure that subsection 104(4) did not apply. In the hypothetical situation described, there is inadequate information to make a determination.
2. With respect to elections filed under subsection 85(2) and accepted by the Department, IT-378R,¶5 notes that its validity may not thereafter be denied by the taxpayer. This would certainly be the case where the normal reassessment period had expired. While the Department may permit a taxpayer to correct obvious errors (such as a transaction that varies inadvertently from plans), its policy would not extend to situations where transactions were completed according to plans, which plans are later determined to be faulty.
3. As per subsection 104(5.3).
XXXXXXXXXX J.D. Brooks
February 18, 1999
This is in reply to your letter of October 2, 1998 in which you requested our views on the definition of “trust” in subsection 108(1) of the Income Tax Act and the interpretation of subsection 107(2) thereof. This letter is further to and consistent with the contents of a verbal response (Brooks/XXXXXXXXXX) on December 23, 1998 which was provided in order to enable you to know our views by December 31, 1998. All statutory references herein are to the Income Tax Act. You presented a hypothetical situation for our consideration which we have restated in more general terms as follows:
A trust which is resident in Canada was created by the will of a man who died after 1971. The assets placed in the trust are for the benefit of certain capital beneficiaries (some of which are exempt beneficiaries as defined in subsection 104(5.4) and some of which are not) who have equal rights to share in the capital of the trust; and the income derived from the assets is payable to another beneficiary. The trustees do not have any authority to encroach on the assets of the trust for the benefit of the income beneficiary. Several years ago the income beneficiary released and surrendered all of his right, title and interest to the income from the trust. The trustees elected (after February 1995) in the 21st year of the trust, pursuant to subsection 104(5.3) to defer the application of the deemed disposition rule of subsection 104(4).
It is your opinion that the election under subsection 104(5.3) was invalid and should therefore be ignored on the basis that, at the time the election was filed, all of the interests in the trust had vested indefeasibly thereby exempting the trust from the application of subsection 104(4) by virtue of paragraph (g) of the definition of “trust” in subsection 108(1). You requested us to confirm your opinion.
You also requested us to confirm your opinion that subsection 107(2) would apply with respect to a distribution of the trust’s assets after January 1, 1999.
Although you have asked for a technical interpretation, the scenario under consideration appears to be an actual fact situation. You should be aware that we do not provide binding interpretations of the Income Tax Act except by way of advance income tax rulings, as discussed in our Information Circular 70-6R3. We are, however, prepared to provide some general comments.
Firstly, there is the issue as to whether there would have been a need to file an election under subsection 104(5.3) in order to defer a deemed disposition under subsection 104(4). Where there is an income beneficiary and a separate capital beneficiary, it is not unusual that the interest of the capital beneficiary does not become effective until the income beneficiary ceases to have an interest in the trust. Thus, even though the interest of the capital beneficiary may have vested indefeasibly, that interest would generally not become effective until some time in the future and thus the trust would not be excluded from the definition of “trust” by virtue of paragraph (g) thereof in subsection 108(1). Accordingly, the trust would not be excluded from the application of subsection 104(4). Under the Civil Code of Quebec, where an income beneficiary surrenders his income interest, the trust continues and the right to income passes to other income beneficiaries or, if none exists, to the capital beneficiaries. If there were some discretion as to who could receive the income, not all interests in the trust would have vested indefeasibly and thus subsection 104(4) would apply (subject to an election filed under subsection 104(5.3)). If there were no discretion concerning the allocation of the income and the income were added to the capital interests, one would still have to determine whether there were any rights of encroachment that would prevent the beneficiaries’ interests from vesting indefeasibly. For instance, if the trustee had the right to encroach on capital for the benefit of a particular capital beneficiary who had a special need, the interests of the other capital beneficiaries would not have vested indefeasibly. In the hypothetical situation, it is not evident that a “disposition day” would not have occurred if a subsection 104(5.3) election had not been filed, since one would have to examine the terms of the particular trust agreement to determine whether all interests had vested indefeasibly and whether there were any interest which could become effective in the future. Thus, in a factual situation, it could have been prudent to file an election under subsection 104(5.3) in order to ensure that the deemed disposition rule of subsection 104(4) would not have had an immediate effect.
Secondly, there is the issue as to what remedy is available to a taxpayer who, subsequent to filing an election under subsection 104(5.3), feels that the election might be a nullity on the basis that the requisite conditions of subsection 104(5.3) were not met. As to the argument that a particular election might be a nullity, we note that the Department has considered this issue with respect to elections filed under subsection 85(2).
In paragraph 5 of Interpretation Bulletin 378R entitled Winding-up of a Partnership, it is stated that if the Department accepts an otherwise invalid election under subsection 85(2), its validity may not thereafter be denied by the taxpayer. This comment is particularly appropriate subsequent to the expiration of the normal reassessment period. While this position relates specifically to elections filed under subsection 85(2), it would seem to have application to other elections. The only available legislated remedy for the hypothetical situation is found in the “fairness” provision of subsection 220(3.2) which provides for elections being revoked pursuant to an application for such treatment, provided the Minister concurs. Each case would have to be considered on its own merits and applications for consideration under subsection 220(3.2) should be submitted to your local Tax Services Office. Information Circular 92-1 discusses the guidelines for accepting requests to revoke elections.
Where a subsection 104(5.3) election is in place for a trust, the day (the “New Disposition Day”) that will be determined for purposes of paragraph 104(4)(b) will be January 1, 1999 at the latest. Subsection 104(4) will deem the trust to dispose of each property described therein on the New Disposition Day for proceeds equal to its fair market value and to have reacquired it for that same amount. If a distribution were made from the trust after the “disposition day” as defined in the preamble of subsection 104(5.3) and before the New Disposition Day, paragraph 104(5.3)(b) provides that subsection 107(2) will not apply to a distribution to a beneficiary who is not an exempt beneficiary immediately before the time of the distribution. Paragraph 104(5.3)(b.1) would not apply in the hypothetical situation to prevent paragraph 104(5.3)(b) from applying since the election under subsection 104(5.3) was filed after February 1995. Thus, except as provided for in paragraph 104(5.3)(b), it would not be possible to avoid a fair market value realization.
As indicated in paragraph 22 of Information Circular 70-6R3 dated December 30, 1996, this opinion is not an advance income tax ruling and consequently, is not binding on Revenue Canada.
We trust our comments will be of assistance to you.
Resources, Partnerships and Trusts Division
Income Tax Rulings and Interpretations Directorate
Policy and Legislation Branch
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