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.
Principal Issues: Do the corporate attribution rules in subsection 74.4(2) apply in a situation where subsections 74.1(1) and 74.3(1) apply?
Position: Perhaps.
Reasons: Question of fact whether one of the main purposes test is met. Given that there is already attribution, generally it would not appear that a purpose would be to
2000-005881
XXXXXXXXXX Karen Power, CA
(613) 957-8953
June 26, 2001
Dear XXXXXXXXXX:
Re: Application of Section 74.4
We are writing in response to your letter of November 28, 2000 wherein you requested our comments on the following hypothetical situation:
1. Mr. A and Mrs. A are spouses, resident in Canada for purposes of the Income Tax Act (the "Act"). Mr. A would like to transfer wealth to Mrs. A in the course of planning for his estate.
2. Mr. A intends to create a trust and settle it with $1,000 in cash. The trust will be a spousal trust for income tax purposes.
3. Mr. A will transfer non-depreciable capital property (the "Property") to the trust and receive no consideration. The fair market value of the Property is significant, while its adjusted cost base is nominal. The provision of subsection 73(1) of the Act will apply to the transfer.
4. The trust will cause a new corporation to be created ("Aco"). The articles of incorporation will create only one class of voting common shares. The trust will transfer the Property to Aco and receive voting common shares. Aco will sell the Property shortly after it is acquired from the trust and realize cash proceeds. Aco will not have any assets or liabilities other than the Property and liquid assets that the proceeds from the sale of the Property will be invested in. Prior to the end of its first fiscal period, Aco will pay most or all of the net after tax proceeds to the trust as dividends.
It appears that the opinion you seek relates to specific proposed transactions and, therefore, we bring to your attention Information Circular 70-6R4 issued on January 29, 2001. Confirmation of tax consequences with respect to proposed transactions involving specific taxpayers will only be provided in response to a request for an advance income tax ruling. Consequently, we will only provide the following general comments.
As a general rule, when property is transferred to a trust for the benefit of the contributor's spouse, any income earned by the trust from the transferred property which becomes payable to that spouse is considered received by the spouse but, by reason of subsection 74.3(1), is taxable in the hands of the contributor. Subsection 74.3(1) of the Act would likely apply in the scenario you describe to attribute any amount allocated to the spouse that would otherwise be included in the spouse's income to the contributor.
It is the view of the Canada Customs and Revenue Agency ("CCRA") that in a situation where subsections 74.1(1) and 74.3(1) of the Act apply, one would not generally expect that one of the main purposes of the direct or indirect transfer of the property by the individual to the corporation is to reduce the income of the individual and to benefit the spouse. However, there may be situations where the CCRA would consider the purpose test of subsection 74.4(2) of the Act to have been met. In such situations, subsection 74.4(2) of the Act could apply, even though subsection 74.1 would apply to any income actually paid to or allocated to the spouse.
In the situation where the purpose test in the preamble of subsection 74.4(2) of the Act and the conditions in paragraphs 74.4(2)(a), (b) and (c) of the Act are satisfied, the amount of interest that an individual will be deemed to have received for any taxation year will be the amount, if any, by which the amount referred to in paragraph 74.4(2)(d) of the Act exceeds the aggregate of the amounts referred to in paragraphs 74.4(2)(e), (f) and (g) of the Act. Paragraph 74.4(2)(d) of the Act refers to an amount of interest, at the prescribed rate, on the outstanding amount of the loan or transferred property for any period in the year throughout which the conditions in subparagraphs 74.4(2)(a), (b) and (c) of the Act are met. With respect to paragraphs 74.4(2)(e), (f) and (g), the only one which is relevant to your enquiry is paragraph 74.4(2)(f) of the Act which reduces the amount of interest included in the individual's income for a taxation year by 5/4 of all taxable dividends received by the transferor on shares received as consideration for the loan or transfer of property.
Where subsection 104(19) applies to a taxable dividend received by a trust for a share of the capital stock of a corporation and designated to a beneficiary under the trust, the dividend is deemed for the purposes of the Act (except for Part XIII) not to have been received by the trust and to constitute a taxable dividend received from the corporation by the beneficiary under the trust. In addition, subsection 82(2) provides that for purposes of the Act where a dividend is included in the transferor's income because of the attribution rules, the dividend is deemed to have been received by the transferor.
In the situation you describe, when Aco pays a taxable dividend to the trust and the dividend is designated under subsection 104(19) by the trust in respect of Mrs. A, subsections 74.1 and 74.3 will apply to attribute the taxable dividend to Mr. A. Thus in any taxation year, where 5/4 of the taxable dividend deemed received by Mr. A exceeds the imputed interest calculation, no amount of interest will have been deemed to have been received by Mr. A pursuant to subsection 74.4(2) of the Act.
The "outstanding amount" of the transferred property would, for the purposes of subsection 74.4(3) of the Act, be equal to the amount by which the fair market value of the Property at the time of the transfer exceeds the aggregate of the amounts referred to in subparagraphs 74.4(3)(a)(i) and (ii) of the Act. In our view, where Aco has incurred an income tax liability on the sale of the Property and distributed the after tax proceeds to the trust, neither 74.4(3)(a)(i) or (ii) would reduce the "outstanding amount" to reflect the reduced fair market value of the shares of Aco held by the trust.
Subsection 74.4(2) of the Act is an anti-avoidance provision designed to prevent income splitting. Whether the tax consequences described above are unintended is a question that is within the purview of the Department of Finance.
We trust our comments will be of assistance to you. These comments are provided in accordance with the practice outlined in paragraph 22 of Information Circular 70-6R4.
Yours truly,
for Director
Reorganizations and Resources Division
Income Tax Rulings Directorate
Policy and Legislation Branch
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