30 June 1994 External T.I. 9412365 - PREFERRED BENEFICIARY ELECTION & CAPITAL GAINS

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.

		941236
XXXXXXXXXX	L. Holloway

Attention: XXXXXXXXXX

June 30, 1994

Dear Sirs:

Re: Technical Interpretation - Preferred Beneficiary Election

This is in reply to your letter dated May 2, 1994, requesting our interpretation of subsection 104(12) of the Income Tax Act S.C. 1970-71-72, c.63 as amended consolidated to June 10, 1993 (the "Act").

Your letter outlined the following scenario:

1.A family trust was created in 1986 (the "Trust"). The settlor (as defined in the Act) is the father. The trustees are the father, the mother and an arm's length third party.

2.The beneficiaries are the grandchildren, the children and the mother. Income may be distributed at the discretion of the trustees to the mother, the children or the grandchildren in the amounts decided by the trustees. Any income that is not distributed is added to capital. The trustees have the power to encroach against capital in favour of the children and the grandchildren in amounts decided by the trustees. Any remaining property will be ultimately distributed to the grandchildren.

3.In 1993 the Trust recognized a capital gain. The capital gain has not been distributed to the beneficiaries. The capital gain is not considered income under the terms of the Trust.

4.The Trust, the father, the mother and all of the beneficiaries are resident in Canada.

In particular you had asked whether the trustees could make either a preferred beneficiary election with respect to the capital gain in favour of the mother or a preferred beneficiary election with respect to income (other than the capital gain) in favour of the mother.

It is your opinion that three interpretations are possible:

1.A preferred beneficiary election may be made to the mother with respect to income or capital gains because she is an income beneficiary.

2.A preferred beneficiary election may be made to the mother with respect to income but not with respect to capital gains because she is an income beneficiary but not a capital beneficiary.

3.A preferred beneficiary election cannot be made to the mother with respect to income or capital gains because the accumulating income is only available to capital beneficiaries and she is not a capital beneficiary.

Our Comments

The situation described in your letter appears to be an actual fact situation related to a past transaction the review of which falls within the responsibility of the local District Taxation Office. We can however provide you with the following general comments.

Unless the conditions set out in paragraph 14 of IT-349R apply, only those preferred beneficiaries who are income beneficiaries are entitled to share in the accumulating income of a trust.

Where the trust indenture of a discretionary trust does not specify that capital gains realized by the trust are income, then capital gains realized by the trust will be considered capital under trust law. Nevertheless, the taxable portion of the capital gain is income for tax purposes and forms part of the accumulating income of the trust. Where Regulation 2800(3)(e) applies, the discretionary share of the spouse is 100% of the accumulating income (which would include taxable capital gains) regardless of the fact that there are other income and capital beneficiaries and she is not a capital beneficiary.

These comments are made in accordance with paragraph 21 of Information Circular 70-6R2 and while we trust that these comments will be of assistance, they do not constitute an advance income tax ruling and consequently, are not binding on Revenue Canada, Customs, Excise and Taxation.

Yours truly,

for Director
Manufacturing Industries
Partnerships and Trusts Division
Rulings Directorate
Legislative and Intergovernmental
Affairs Branch