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.
Dear Sirs:
We would be grateful for your technical interpretation regarding the calculation of foreign accrual property income (FAPI) in the following situation:
Beneficiary (resident in Canada) ] (100%)
S94(1)(d) Trust (resident Bahamas) ] (100%)
Investment Holding Co. (Resident Bahamas)
(i) The beneficiary is an income beneficiary for life, with the remainder going to his children, who are thus the capital beneficiaries.
(ii) The only trust asset is its 100% holding in the investment holding company is determined by reference to the value of its assets.
(iii)The fair market value of the investment holding company is determined by reference to the value of its assets.
(iv) FAPI income (interest) is generated in the investment holding company for years 1976 through 1979 and is included in the income of the beneficiary.
(v) During 1979 the investment holding company is liquidated into the trust.
PROBLEM 1
On the liquidation of the investment holding company, the foreign trust will experience a gain over its 1975 year end value. This gain will represent FAPI vis-à-vis the beneficiary. However, the gain is wholly attributable to the investment company's retained interest income, which has already been taxed as FAPI. This appears to be a situation to which subsection 4(4) of the Income Tax Act would apply.
PROBLEM 2
The concept behind the FAPI rules is that once FAPI has been taxed on the Canadian resident, its subsequent distribution should be without further tax. However, there appears to be a problem in this regard with a section 94(1)(d) trust. Under section 94(5) the only adjustment to take account of the FAPI arising in both the trust and the investment holding company, which has been taxed on the beneficiary, is an adjustment to the cost base of the beneficiary's capital interest in the trust. As the beneficiary does not have a capital interest in the trust, it appears that there is no relief in this situation for previously taxed FAPI. The payment by the trust of the accumulated income to the beneficiary which was previously taxed as FAPI, would not constitute the disposition of a capital interest and would be treated as a payment of income fully taxable. Again, it appears to us that this would be a situation in which subsection 4(4) should afford relief.
We will be grateful for your views on the possible application of subsection 4(4) in the foregoing circumstances.
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