CRA indicates that a capital loss in the tax year following the death of an alter ego trust’s settlor can eliminate interest on the terminal T3 return’s 104(4)(a) gain

The death of the settlor of an alter ego trust, or the death of the survivor of spouses for a joint spousal trust, on July 31 triggers (under s. 104(13.4)(a)) a year end and the commencement of a subsequent taxation year ending on December 31. The T3 returns for both taxation years are due on March 31 (by virtue of s. 104(13.4)(c)). The taxable capital gain reported in the return filed on that date for the 1^st taxation year (filed on that date) shows a capital gain (that arose on the death under s. 104(4)(a)) equalling a capital loss that in fact was realized in the 2^nd taxation year (the return for which is filed at the same time).

CRA indicated that the loss carryback requested on the form T3A filed with the 2^nd return will not be processed concurrently with the T3 return for 1^st taxation year, as the loss must first be recognized by CRA before it can be applied to the earlier taxation year – so that the initial notice of assessment for the 1^st taxation year would not reflect the carryback, and would show interest owing where the computed balance of tax owing was not paid on or before March 31.

However, the loss carryback is applied on the balance-due day (March 31) for the 1^st taxation year, and the net effect is that there is no Part I tax payable on that date. Accordingly, the interest which appeared on the initial assessment will be reversed on the notice of reassessment for that year.

Neal Armstrong. Summary of 26 November 2020 STEP Roundtable, Q.2 under s. 104(13.4)(c).