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: 1) How is the ACB and proceeds of disposition calculated for an interest in a substitution? 2) Is a capital loss that is not denied by reason of 40(2)(g)(iii) on the expiry of an institute's interest in a substitution recognized on the death of the institute?
Position: 1) ACB is based on the FMV at the time the substitution was created unless 70(6) applies and the proceeds of disposition are based on FMV immediately before death. 2) Any capital loss so created is recognized unless 40(2)(g)(iii) applies.
Reasons: 1) 70(5) 2) Other than 40(2)(g)(iii), there is no statutory reason to deny a capital loss that arises as a result of the deemed disposition under 70(5) immediately before death; however the FMV of the institute's interest in the substitution at that time, and thus the deemed proceeds of disposition under 70(5)(a), do not reflect the imminence of death for the reasons set out in the Mastronardi decision.
XXXXXXXXXX 1999-001319
A. Humenuk
Attention: XXXXXXXXXX
July 20, 2000
Dear XXXXXXXXXX:
Re: Real Property subject to a Substitution created before 1991
This is in reply to your letter of December 11, 1998 in which you ask about the tax consequences resulting from the establishment of multiple substitutions under the laws of Quebec pursuant to the terms of the will of an individual who died prior to 1991. We apologize for the delay in our response.
You describe a situation in which a substitution was created by will before 1991 under which the first institute was the deceased individual's spouse with the children of that marriage as the substitutes. Upon the death of the first institute, the children of the marriage became the present institutes and their children (or in certain circumstances, their siblings) became the present substitutes. In the event that any combination of the present institutes die, you asked whether such death would give rise to a taxable disposition and if so, how the cost and proceeds of disposition of the institute's property would be calculated.
Although you have asked for a technical interpretation, the scenario presented relates to a specific fact situation and, as explained in Information Circular 70-6R3, questions related to the tax consequences of a particular taxpayer should be directed to your local tax services office except where it involves a proposed transaction. We can however provide you the following general comments.
All statutory references in this letter are references to the provisions of the Income Tax Act (the "Act").
A substitution created before 1991 is not a trust for the purposes of the Act. Accordingly, when a substitution is created before 1991, each person who was a party to the substitution acquired an interest in that property at the time of the individual's death for tax purposes.
The adjusted cost base of each person's interest in a substitution created by will is determined under subsection 70(5) or (6) (as is applicable in the circumstances) upon the death of the individual who created the substitution. When subsection 70(5) applies, the person's adjusted cost base is based on the fair market value of his or her interest at that time. Note that there is no provision in the Act by which the adjusted cost base of a substitute's interest in the substitution is increased by reason of the death of an institute.
The calculation of the fair market value of an institute's interest in the property at a particular time is based on factors such as the fair market value of the property itself, current interest rates, life expectancy of the institute as well as any other factors that are relevant to the specific situation. The fair market value of the interest of a substitute who will become an institute upon the death of the first institute is calculated in the same manner as for the first institute but is reduced by the amount of fair market value of the first institute's interest. As a result, the adjusted cost base of the interest of the substitute who will hold the property when it is no longer subject to a substitution is equal to the amount that an arm's length purchaser would pay upon the death of the individual who created the substitution for ownership of the property, recognizing that the property is subject to the various life interests set out in the substitution.
Under subsection 70(5), each institute is deemed, immediately before his or her respective death, to have disposed of his or her interest in the property for proceeds equal to the fair market value of the interest at that time. While the imminence of death is not taken into account in determining the deemed proceeds of disposition of an institute's interest in a substitution for the reasons set out by the Federal Court of Appeal in The Queen v Mastronardi (77 DTC 5217), one would still reasonably expect that the value of a life interest to decline in value over time unless the annual level of income from the property increases to sufficiently compensate for the life expectancy factor. If the property that is subject to the substitution is personal use property, subparagraph 40(2)(g)(iii) will apply to deny any capital loss that may arise as a result of the deemed disposition under 70(5).
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 the Canada Customs and Revenue Agency.
We trust our comments will be of assistance to you.
Yours truly,
T. Murphy
for Director
Resources, Partnerships and Trusts Division
Income Tax Rulings Directorate
Policy and Legislation Branch
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