6 May 2010 External T.I. 2009-0338291E5 - Deemed 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: 1. Whether the deemed trust applies without an assessment.
2. Whether the deemed trust takes priority over other creditors.
3. When would the CRA assert a claim for the deemed trust.
4. Whether the deemed tryst applies to personal income tax.

Position: 1. Yes.
2. Yes.
3. Yes.
4. No.

Reasons: 1. The deemed trust arises by operation of law. The CRA is not obliged to assess or register the deemed trust or give notice of its existence.
2. Any security interest registered after the deemed trust has arisen would not have priority.
3. The Crown's rights to the deemed trust are in the proceeds of any property liquidated; hence the CRA would assert a claim for the deemed trust when property to which the deemed trust attaches is liquidated.
4. The deemed trust applies to source deductions, not to personal income tax.

					2009-033829
XXXXXXXXXX 				Lindsay Frank
					(613) 948 2227
Attention:  XXXXXXXXXX 

May 6, 2010

Dear XXXXXXXXXX :

Re: Deemed Trust

This is in reply to your letter of July 23, 2009, in which you are inquiring about the operation of subsections 227(4) and (4.1) of the Income Tax Act (the "Act").

Subsection 227(4) of the Act deems an amount deducted or withheld, as required by subsection 153(1), to be held in trust ("deemed trust") until it is remitted to the fisc. Subsection 227(4.1) provides that the deemed trust operates despite either the Bankruptcy and Insolvency Act ("BIA") or any security interest that a creditor may have in the person's property. In that regard, an amount, equal to the amount withheld, is deemed to be held in trust for the Crown out of the person's property. That amount forms no part of a bankrupt estate from the time that the amount was deducted or withheld. Furthermore, the property is beneficially owned by the Crown, notwithstanding any security interest in the property, and the proceeds of that property have to be paid in priority to any security interest.

The deemed trust does not have absolute priority. If certain conditions prevail, that priority would be subordinated to the rights of certain creditors. In this respect, subsection 227(4.2) stipulates that a security interest does not include a prescribed security interest. Section 2201 of the Income Tax Regulations defines a prescribed security interest as a mortgage on land or building, voluntarily given and duly registered before the deemed trust arose.

Furthermore, section 81.1 of the BIA affords suppliers, who delivered goods thirty days preceding the bankruptcy of a person referred to in subsection 153(1) of the Act, a priority ahead of the deemed trust. In addition, section 81.2 provides farmers, fishermen, and aquaculturalists with a charge over that person's inventory for products supplied during the fifteen-day period before that bankruptcy.

The following are the replies to the specific questions that you posed in your letter.

Question No. 1

Whether amounts deemed to be held in trust would take priority over any security interest registered, notwithstanding that the amounts have not been established by assessment?

Reply to Question No. 1

The deemed trust arises by operation of law. Accordingly, the Minister is not obliged to issue an assessment, register the deemed trust, or publish any notice of its priority before asserting the deemed trust. When a payor makes a payment net of withholdings as required by subsection 153(1), property of the payor is impressed with the deemed trust, which takes priority over a security interest other than a prescribed security interest.

Question No. 2

Does a security interest registered against a property for trust funds come ahead of any other security interests registered after the trust funds were deducted or withheld by the person?

Reply to Question No. 2

Subsection 227(4.1) does not create a security interest in the payor's property. Rather, it accords the Crown beneficial ownership of the person's property to the extent of the amount of the deemed trust from the time the amount was withheld until such amount is remitted. Any security interest registered after the deemed trust arose would not have priority over the deemed trust. However, a security interest would be created, under subsection 223(11.1) of the Act, were the Minister to certify the debt and register the certificate in accordance with subsection 87(1) of the BIA, pursuant to a prescribed system of registration as stipulated in section 111 of the Bankruptcy and Insolvency General Rules, C.R.C., c. 368.

Question No. 3

Would the situation in (2) above arise if the creditor of such security interest were to take action to effect collection of the debt by seizing the property? If a particular agreement of repayment were to run its commercial course, would the CRA become involved or claim against the property subject to the creditor's enforcement proceedings?

Reply to Question No. 3

Pursuant to subsection 227(4.1), the Crown has priority to the proceeds from the property that it beneficially owns. Thus, the CRA would assert a deemed trust claim where a creditor has seized and liquidated such property. This would be the case as well if a payment arrangement was concluded with the payor.

Question No. 4

Are amounts for personal income tax affected by subsections 227(4) and (4.1), and would any security interest registered by another creditor be pre-empted by any security interest registered on behalf of Her Majesty subsequent to that specific security interest?

Reply to Question No. 4

Subsections 227(4) and (4.1) relate to source deductions, and not to personal income tax. In other words, amounts of personal income tax owing are not subject to the operation of the deemed trust. However, such amounts could be subject to the deemed security interest pursuant to subsection 223(11.1) of the Act as discussed earlier in the reply to question 2.

Should you have any questions or require additional information, please do not hesitate to contact Lindsay Frank at the number provided above.

B.J. Skulski
Manager
Insolvency and Administrative Law Section
Ontario Corporate Tax Division
Income Tax Rulings Directorate

c.c. Sheila Ogden
Revenue Collections Section
London Tax Services Office