Section 107

An estate (that was a testamentary trust) holding appreciated assets has five grandchildren who would receive as residuary beneficiaries under the estate following the death of “Ms. A and Mr. B” (presumably siblings or siblings in law, and parents of the grandchildren). CRA ruled that a disclaimer by the grandchildren - resulting in a distribution of the residue of the trust assets to Ms. A and Mr. B on an intestacy – would not result in any of the grandchildren receiving proceeds of disposition, and that such distribution would occur under s. 107(2).

In 2023-0990531C6, CRA indicated that, where a life insurance policy is distributed by a personal trust in satisfaction of an income interest in the trust, there would be a disposition of that interest and of the policy at FMV, irrespective of which of s. 106(3) or 107(2) applied. CRA confirmed that this did not call into question its earlier positions in inter alia 2011-0391781E5 that where an interest in a life insurance policy held by a personal trust is distributed to a resident beneficiary in full or partial satisfaction of the beneficiary's capital interest, s. 107(2) (assuming its conditions were satisfied) would prevail over s. 148(7), so that s. 107(2) rollover treatment would apply.

Neal Armstrong. Summary of 10 October 2024 APFF Financial Strategies & Instruments Roundtable, Q.10 under s. 148(7).

A private company (Aco) was the beneficiary and holder of a policy, on the life of Mr. X, with an adjusted cost basis (ACB), cash surrender value (CSV) and FMV of $50, $150 and $250, respectively. All of the common shares of Aco were held by a discretionary family trust (Trust X) of which Xco (a holding company controlled by Mr. X) was a capital and income beneficiary.

In the year immediately preceding that sale on January 1 of all the shares of Aco, Aco paid a dividend in kind of the policy to Trust X, so that the policy was deemed to be disposed of for the greatest of its ACB, CSV and the (nil) consideration received, or $150.

On December 31 of the same year, Trust X issued a promissory note to Xco for an amount equal to the policy FMV, with the promissory note then being repaid by the transfer of the policy by Trust X to Xco. Would s. 107(2) apply to such distribution of the Policy by Trust X to its beneficiary, Corporation X, in Year A2?

CRA indicated that s. 107(2) would not apply, stating:

Trust X would therefore repay a debt to its beneficiary by a payment in kind. Subsection 107(2) would not apply in those circumstances, since this would not be a situation where a distribution of trust property gives rise to a disposition of all or part of the beneficiary's capital interest in the trust. Rather, it would be a situation where a debtor repays its debt to its creditor.

Instead, s. 148(7) would deem the proceeds of disposition of the policy to the trust to be the FMV of the consideration received by the trust for the disposition, namely, the $250 note repayment.

Background

Trust 2, which is a discretionary inter vivos trust with Mr. A, his spouse Ms. A and their children (Child 1 and 2, or the “Children”) as discretionary beneficiaries, held Class D non-voting and participating shares of Xco (a CCPC investment corporation), which it had subscribed for as part of an estate freeze. On such estate freeze, Mr. A had received Class B non-voting preferred shares and subsequently subscribed for Class C voting and non-participating shares.

Trust 2 also had held Class D non-voting and participating shares and Class E non-voting preferred shares of Former Zco.

Former Zco was a holding company for an operating company, and also held Class D shares of Yco, which had been distributed to it, qua discretionary corporate beneficiary, by another discretionary trust (Trust 1 –which had since been wound-up) pursuant to s. 107(2).

Former Zco then amalgamated with Yco to form Zco (whose share capital was identical to that of Zco), and the Class E shares of Trust 2 were exchanged under s. 51(1) for Class D shares.

Preliminary transactions

1. Child 1 and Child 2 each incorporated a holding company (“Holdco-Child 1” and “Holdco-Child 2”) and subscribed for Class A voting participating shares.
2. Holdco-Mr. A was incorporated, with Mr. A (after giving effect to preliminary transactions involving the issuance and purchase for cancellation of other classes of shares) holding Class C voting and non-participating shares.
3. All the Class D shares of Zco held by Trust 2 were exchanged under s. 51 for Class D non-voting and participating shares, Class E non-voting preferred shares and Class F preferred shares (bearing a dividend that was potentially discretionary) – and then made a further s. 51 exchange of Class D for Class D and E shares.

Proposed transactions

Trust 2 will distribute the Class D shares of Xco to the Children, distribute the Class F shares of Xco, and the Class E and F shares of Zco to Mr. A, and the balance of the Class E shares to Ms. A. Trust 2 will then be wound up.

The following exchanges will occur, with s. 85(1) elections being made:

• Mr. A will transfer his Class F shares of Xco and his Class F shares of Zco to Holdco-Mr. A in exchange for Class F shares of Holdco-Mr. A.
• The Children will transfer their Class D shares of Xco and Zco to Holdco-Mr. A in exchange for Class D shares of Holdco-Mr.A.
• The Children will transfer their Class D shares of Holdco-Mr. A to their own respective Holdcos in exchange for Class A voting participating shares of their respective Holdcos.

Rulings

Regarding inter alia application of s. 107(2) and non-application of s. 56(2)

CRA indicated, having regard to Former Zco having received the Yco shares under s. 107(2), that s. 245(2) could be applied to deem s. 104(4) to be applicable to Trust 2 if the distribution by it of its Zco shares did not occur before the 21^st anniversary of the settlement of Trust 1.

The beneficiaries (the “Beneficiaries”) of a resident discretionary family trust (the “Trust”) are the children of Mr. X, who was the settlor. The trust agreement (the “Trust Agreement”) gives the trustees the power to distribute income or capital of the Trust to or for the benefit of the Beneficiaries, but does not contemplate that a trust created for the benefit of the Beneficiaries could be added as a beneficiary. Nonetheless, having regard to the approaching 21-year anniversary, the trustees intend to distribute the property of Trust to a newly created trust (the “NewTrust”) which has been settled for the benefit of the Beneficiaries. None of ss. 107(2.001), (4) to (5) would apply. Would a transfer to the Trust property to NewTrust occur on a s. 107(2) rollover basis?

CRA indicated that the term “beneficiary” in s. 107(2) included a person beneficially interested in the trust, which term was defined in s. 248(25) and that, in order for a person to be beneficially entitled under s. 248(25)(a) on the basis of having any right “as a beneficiary under the trust to receive any income or capital of the particular trust,” the person must have that right as a beneficiary.

Since the trust agreement did not include a trust for the benefit of the children of Mr. X as a beneficiary (nor contemplate any such trust as a future beneficiary), s. 107(2) would not apply on the transfer of property from Trust to New Trust, because New Trust was not a beneficiary.

CRA went on to note that it had not considered whether s. 248(1) – “disposition” – (f) or s. 107.4(3) could accord rollover treatment.

On the death of a non-resident individual, who had been filing T1 returns pursuant to the s. 216 rules regarding a Canadian rental property, that property was acquired by her non-resident estate at FMV, then was distributed to her two non-resident children (Y and Z - the residuary beneficiaries) as equal co-owners. CRA indicated that s. 107(2) could apply to the distribution of the rental property to the non-resident beneficiaries, stating:

Assuming the distribution of the rental property to Y and Z is made out of the residue of the Estate and transferred to Y and Z in accordance with the provisions of the Will in satisfaction of all or any part of their interests in the capital of the Estate, then subsection 107(2) could apply to allow a tax-deferred rollover on the distribution of the rental properties to Y and Z.

Real or immovable property situated in Canada is a property described in subparagraph 128.1(4)(b)(i). Therefore, subsection 107(5) should not apply to deny the tax-deferred rollover of the rental property to Y and Z and the rental property may be distributed under subsection 107(2) provided the requirements of subsection 107(2) are otherwise satisfied.

In the view of CRA, 2016-0669301C6 and 2017-0693321C6 dealt with an abusive circumvention of s. 104(5.8) through a s. 107(2) distribution by a Canadian-resident discretionary trust to a Canadian corporation whose shares were wholly owned by a newly established Canadian-resident discretionary trust; and 2017-0724301C6 dealt with the circumvention of ss. 107(5) and (2.1) by such a trust transferring, on a tax-deferred basis pursuant to s. 107(2), property that was not taxable Canadian property to a newly formed Canadian corporation which was a corporate beneficiary.

The GAAR Committee recently reviewed a similar distribution by a Canadian resident discretionary trust, but where the distributed property was taxable Canadian property (TCP) that did not come within the carveouts to s. 107(5) (being property described in ss. 128.1(4)(b)(i) to (iii) or a share of the capital stock of a non-resident-owned investment corporation). Such distributed property was the shares of a real estate corporation that thus fell within para. (d) of “taxable Canadian property” in s. 248(1).

The Committee recommended that GAAR be applied to that distribution on the basis that, even though the property that was transferred was TCP, it was not the type of property that was specifically carved out in s. 107(5). The Committee also considered that such a transfer is an abuse of ss. 107(2), (2.1) and (5). CRA noted that it would be appropriate to apply the same conclusion whether or not the transactions are undertaken to avoid the 21-year disposition rule under s. 104(4).

Background

The Trust is a non-resident personal trust whose Settlor has since been liquidated, and there is no other person who was at any time subject to s. 75(2) or 94(8.2). The sole beneficiary of the Trust is Beneficiary, a company, that is a member of a corporate group. Essentially the only Trust asset is the entire beneficial interest in Canadian real property (the “Real Property”) that is taxable Canadian property and that is leased to a group Canadian company (Canco 2). The Trust had acquired the Real Property from Canco 2 in consideration for the assumption of Loan 1, being a mortgage owing to the third party that had sold the Real Property to Canco 2, and Loan 3, being an unsecured loan owing to Finco, a wholly-owned subsidiary of the Beneficiary. The Trust also is obligated under Loan 2, which is secured by a mortgage on the Real Property. Trustee has full discretion to make distributions of income or principal to the Beneficiary. The 21^st anniversary under s. 104(4) is approaching and the Real Property has significant accrued gain and recapture.

Proposed transaction

The Trustee will distribute the Real Property (including lease) to the Beneficiary, on condition that the Beneficiary assume Loan 1, Loan 2, and Loan 3, which will be the sole consideration given for. The fair market value of the properties received will exceed the assumed debt.

Rulings

Including that s. 107(2) will apply to the distribution from the Trust of the Real Property to the Beneficiary such that:

• pursuant to s. 107(2)(a) the Trust will be deemed to have disposed of the Real Property for its cost amount,
• the Beneficiary will be deemed under s. 107(2)(b) to have acquired it at the same amount
• and under s. 107(2)(c) to have disposed of part of its capital interest for that amount minus the eligible offset amount, being the amount of the assumed debt, and
• pursuant to ss. 107(1.1), 107(1)(a), and s. 108(1) – “cost amount”, the adjusted cost base of the part of the capital interest in the Trust to the Beneficiary, immediately before the disposition of such part of the capital interest, will be deemed to be the total of all amounts each of which is the cost amount to the Trust of the distributed properties.

Does s. 107(2) apply where a trust distributes property to a beneficiary on condition that the beneficiary assume a debt of the trust to a financial institution? CRA responded:

Under subsection 248(1), a personal trust is defined, among other things, as a trust in which no beneficial interest was acquired for consideration payable directly or indirectly to the trust or to any person or partnership that has made a contribution to the trust by way of transfer, assignment or other disposition of property. …

The question of whether the assumption by the beneficiary of the debt of the trust constitutes consideration for the acquisition of a beneficial interest in the trust is a question of fact….

To the extent that assumption by the beneficiary of the debt does not cause the trust to lose its personal trust status and all other conditions for the application of subsection 107(2) are satisfied, the rollover under that subsection applies to the distribution of the property.

Background

Ms. A and Mr. B. are income and capital beneficiaries, as well as the trustees, of the estate (a testamentary trust) of their late father, Mr. X. In the event that Ms. A or Mr. B dies before the Estate assets are exhausted, the contingent residual beneficiaries of the Estate are the five Grandchildren. Should Ms. A (or Mr. B) predecease her (or his) children, they will each receive a portion of her (or his) remaining interest in the Estate. The 21-year deemed disposition rule in s. 104(4) will occur on XXX.

Proposed transactions

The Grandchildren will disclaim any capital and income residual interest that they would ultimately receive in the Estate (if they survive Ms. A and Mr. B and there are residual assets) for no consideration. They will make no direction regarding who is entitled to receive the benefit from disclaiming their interest. As a result of the disclaimer by the Grandchildren, the residue of the Estate will be “subject to an intestacy because at that time there will be no beneficiaries other than Ms. A and Mr. B.” Such residue will be distributed to Ms. A and Mr. B in accordance with the laws of intestacy. Prior to making such distributions, the trustees of the Estate shall pass a resolution that the distributions of all of the residual assets will be in satisfaction solely of the capital interests of Ms. A and Mr. B in the Estate.

Effect of transactions

Each of Ms. A and Mr. B will have the benefit of their respective portions of the Estate assets during their respective lifetimes and have the potential to be able to make gifts to their children as they determine appropriate. On their deaths these assets and the balance of any assets they have accumulated in their own personal estates are to be distributed to their families and any other beneficiaries in accordance with their respective wills. This is acceptable to the five Grandchildren.

Rulings

The disclaimers by the Grandchildren will not result in any of them being considered to have received any proceeds of disposition for purposes of ss. 40(1), 106(2) and 107(1).

Subject to s. 107(2.001), s. 107(2) will apply to the distribution of the Estate assets to Ms. A and Mr. B.

CRA confirmed that a personal trust was tainted under s. 107(4.1) when it was settled with a gold coin by one of the capital beneficiaries – so that until the settlor died, none of the other property in the trust could be rolled out under s. 107(2) to the other capital beneficiaries even though such property had been acquired in an arm’s length purchase from an arm’s length vendor. Whether the vendor of such property was still in existence or not was irrelevant.

CRA considers (e.g., 2013-0488061E5) that the s. 107(2) rollover does not apply to the property of a personal trust which is distributed to a capital beneficiary to pay a debt owing to the beneficiary. In order to avoid this result in the case of a real property subject to a mortgage owing to the capital beneficiary, the trust can pay off the mortgage with a fresh mortgage financing from a bank, and then distribute the encumbered property to the beneficiary.

The sole beneficiary of an inter vivos trust (the "Trust"), whose interest under the Trust had vested indefeasibly, died, as a result of which his capital interest passed as part of his estate to his beneficiary. The sole asset of the trust was all the shares of a corporation (the "Property"). What is the cost to the estate of the deceased beneficiary of the Property distributed by the Trust in satisfaction of the capital interest therein of the estate?

CRA noted that the deceased was deemed on death to have disposed of his capital interest for its fair market value which, under s. 107.4(4) "was at least equal to the FMV of the Property of the Trust" and that, under s. 70(5)(b), "the estate was deemed to have acquired the capital interest at its FMV."

The Trust was deemed by s. 107(2)(a) to have disposed of its Property to the estate for its cost amount. After noting that "paragraph 107(1.1)(b) would not deem the cost of the interest in the Trust of the estate to be nil because it would acquire the interest from a person who was the beneficiary immediately before such acquisition," and that under s. 108(1) – "cost amount" – (a), "the cost amount of the [estate's] interest in the Trust was deemed to refer to the cost amount, immediately before the distribution, of each of the properties distributed to the beneficiary," CRA stated (TaxInterpretations translation):

…as in this case, the cost amount of the Property to the Trust would correspond to the cost amount to the estate of the capital interest in accordance with subsection 108(1), the application of paragraph 107(2)(b) would ensure that the cost of the property to the estate would be equal to the ACB of its capital interest, and thus, generally, to its cost determined in accordance with paragraph 70(5)(b).

The proceeds of disposition of the capital interest by the Trust also would be equal to the cost of the interest established under s. 70(5)(b).

Where a discretionary personal trust issues a note to a beneficiary in satisfaction of her capital interest, CRA considers that "the issuance of a note does not constitute the distribution of property of a trust to a beneficiary," so that s. 107(1) would not apply to deem her to have a high ACB for her capital interest, and s. 107(2) would not apply to the note issuance. See detailed summary under s. 108(1) – cost amount.

When a personal trust with appreciated property is wound-up and a portion of the property is transferred to the capital beneficiary is settlement of a debt owing to him or her. Does the s. 107(2) rollover apply? After noting that Chan indicated that a distribution under s. 107(2) is an allotment made in accordance with the beneficiary's interest and not made for consideration, CRA stated:

Under the law of equity, fiduciary duties are imposed on a trustee and are enforceable by the beneficiaries of a trust. In our view, the settlement of the debt owing by the trust to the beneficiary would not constitute a distribution undertaken by the trustee under a fiduciary duty to a beneficiary qua beneficiary, but rather, the fulfilment of requirements imposed on a debtor.

It cannot be said that a transfer that settles a debt can also constitute a distribution for purposes of subsection 107(2) of the Act. …The settlement of the debt by the transfer of property to the creditor does not occur by virtue of rights of the holder of the interest as a beneficiary under the trust. It occurs by virtue of the rights held as a creditor.

The Deceased had three wills in respect of defined components of her estate (the "Trust"), including a second will in respect of the "Secondary Estate." CRA found that the second will did not accord the trustees the discretion to make a gift to specified Charities, so that s. 118.1(5) did not deem distributions made to the Charities to have been gifts made by the Deceased.

Respecting the potentially competing application of ss. 118.1(3) and 107(2) on the distribution of capital property of the trust to discretionary capital beneficiaries including charities, where the will accords the trustees with the discretion to make charitable gifts, CRA stated that this determination should be made based on the "specific wording of the trust agreement and ... whether the intention of the trustee was to have the trust make a distribution to the charity as a donation of capital property of the trust, or in settlement of a capital interest which the charity may have in the trust."

After referring to 2013-0488061E5 (below) and 2013-0488381E5, CRA stated:

[A] transfer of property by a trustee in settlement of a debt cannot also be a distribution for purposes of subsection 107(2)…; it is one or the other. A distribution is the fulfilment of a fiduciary duty owed to the beneficiary in respect of the trust property. Thus, for the portion of a transfer of value that settles a debt owing by the trust, the preamble to subsection 107(2) of the Act is not met, and by extension, paragraph 107(2)(a) will not apply.

In commenting further on its position in 2013-0488061E5 (immediately below) and 2013-0488381E5 that the distributions of trust property in satisfaction of trust debt were not eligible for rollover treatment under s. 107(2), CRA stated:

It cannot be said that a transfer that settles a debt can also constitute a distribution for purposes of subsection 107(2) of the Act. In order for both a distribution for purposes of subsection 107(2) and a settlement of debt to occur, it is our view that two transfers of property must occur. Note that the settlement of the debt by the transfer of property to the creditor does not occur by virtue of rights of the holder of the interest as a beneficiary under the trust. It occurs by virtue of the rights held as a creditor.

A child of the settlor of a discretionary trust who now is the sole trustee and one of the beneficiaries distributes all the trust real property to herself prior to the 21st anniversary date of the trust, with a portion of that distribution being in repayment of all the trust debt owing to her. After stating that "where property is distributed by a trust to a beneficiary in satisfaction of their capital interest in that trust, subsection 107(2) should apply provided that the preconditions for application are met," CRA went on to indicate in the following example (described in greater detail in the full text) that there would be no rollover to the trust under s. 107(2)(a) with respect to the transfer of that portion of the real property which repaid the debt:

The trust transfers a property to the beneficiary with a cost amount of $75 and a fair market value of $120, with a portion of the property repaying a $15 debt owing by the trust to the beneficiary. Under paragraph 107(2)(a) the trust is deemed to have disposed of $105/$120 of the property (being the portion distributed in partial or total satisfaction of the beneficiary's interest) for proceeds equal to its proportionate cost amount, being $65.63 ($75 x (105/120)). As the $15 debt was settled with a portion of the asset with a cost amount of $9.37 ($15/$120 x $75), the trust would recognize a gain of $5.63 (proceeds of $15 less cost of $9.37) on the disposition of that portion of the asset required to settle the debt.

Respecting a distribution of Canadian real property by a personal trust resulting in a disposition of the beneficiary's capital interest, CRA rejected a suggestion that s. 107(2)(a) deemed there to be a disposition of the property before its actual distribution, with the result that there was no disposition for purposes of the Act as at that time there was no change in the beneficial ownership of the property:

The phrase "immediately before that time" as used in paragraph 107(2)(a) of the Act, qualifies only the words "... its cost amount to the trust..." for the purposes of determining the proceeds of disposition. It is our position that paragraph 107(2)(a) does not deem a disposition of property to occur by the non-resident trust to the beneficiary prior to the actual disposition time....[W]hen the non-resident trust actually makes the distribution of the real property to the beneficiary, subsection 116(3) of the Act will need to be complied with. CRA has also taken the position that section 116 will also need to be complied with upon the disposition of the capital interest in the trust by the non-resident beneficiary.

A non-resident inter vivos trust distributes its shares of a private Canadian real estate corporation (Canco) in satisfaction of the capital interest of its sole non-resident benficiary. S. 107(2.1) rather than (2) applied:

[S]ubsection 107(2) is not applicable in this case because the shares of Canco would not qualify as property described in any of subparagraphs 128.1(4)(b)(i) to (iii). The conclusion that the Canco shares might qualify as "Canadian real, immovable or resource property" is not relevant for the application of subsections 107(2), 107(2.1) and 107(5), as this expression is not used under those provisions.

CCRA indicated that since the taxpayer was a usufructuary of the estate and, thus, an income rather than capital beneficiary of the estate, the s. 107(2) rollover was not available. However, as she was a “specified beneficiary” who occupied a portion of the property as her residence, it appeared that the estate could designate that portion of the property as her principal residence on its transfer to her.

A trust distributes shares of a Canadian corporation to its beneficiary on the condition that the beneficiary assumes indebtedness on a loan owing by the trust. The amount of the debt assumed generally will be an eligible offset used in calculating the beneficiary's proceeds of disposition of a part of its capital interest.

S.105(1) does not apply to a distribution of property to which s. 107(2) is applicable.

In finding that s. 107(2)(b) rather than 69(1)(c) applied to the acquisition by a resident of Canada of property in satisfaction of an interest in a non-resident estate, RC stated that "the reference to a trust in subsection 107(2) of the Act includes a non-resident trust even if it is not subject to income tax in Canada".

S.107(2)(b) will apply to determine the cost of property distributed to a Canadian beneficiary of a non-resident personal trust. However, because the non-resident trust is not a "taxpayer" (i.e., it does not carry on business in Canada, does not hold taxable Canadian property and is not subject to s. 94 of the Act), ITAR 26(3) and (5) would not apply to step up the cost base of the property to the beneficiary.

It is a question of law whether, upon the variation of a trust, the distribution of property can be said to be made under the terms of a testator's will or another trust, for the purposes of the meeting of "testamentary trust", "personal trust" and s. 248(8)(a).

A variation of trust affecting only administrative or investment powers, or containing provisions for naming replacement trustees, or extending or amending powers of the trustees (such as an authorization to "freeze" some or all of the assets of the trust) would not normally result in the creation of a new trust. However, serious consideration would be given to the addition of discretionary beneficiaries given that there would be a resulting disposition of interests in the trust.

Where a personal trust is wound up and the assets distributed to the sole beneficiary, such property will be considered to have been received by the beneficiary in exchange for his capital interest pursuant to s. 107(2), with the result that the rollover will be available.

Can a trust make the s. 107(2.001) election on a property by property basis? As there is no prescribed form, how is the election made? CRA stated:

…The words "a property" refers to a singular property, such that the election can be used in respect of only one property of all the property distributed. For example, if the property being distributed is shares of a corporation, the trust may elect in respect of a single share… .

As a prescribed form is not available for the election, a letter should be filed with the trust's … Return for the year the distribution occurs… . A list of the information that should be included in the letter is provided on page 31 of the 2013 T3 Trust Guide... .

///?p=18479">18 April 2013 T.I. 2012-0470391E5): The s. 107(2.001) election can be applied on a property-by-property basis - for example, on a single share or several shares, but not on a fraction of a share.

There are currently no prescribed forms for s. 107(2.001) or s. 107(2.11). Instead, a letter should be filed with the trust's T3 form. CRA sets out detailed requirements for a s. 107(2.11) (see the letter for a full list). Information to be included in a s. 107(2.001) election is set out in the T3 Trust Guide (at the time of writing, p. 28 of cra-arc.gc.ca/E/pub/tg/t4013/t4013-12e.pdf).

In finding that the election under s. 107(2.001) was invalid if made late, the Directorate listed various distinctions between that election and the designations considered in Nassau and Lussier.

As there is no prescribed form, how is the election made? CRA indicated that the beneficiary should include in a letter attached to beneficiary's T1 Return (or in an election sent separately if the return is filed electronically): a declaration that the beneficiary is electing under s 107(2.11); his or her name, address and ID number (e.g., SIN); the distributed property's description, cost amount and FMV; the ACB of his or her capital interest in the trust; a description , address and country of residence of the trust and the name and address of the trustees.

CRA stated:

Under paragraph 107(2.002)(b), the cost amount of the capital interest to the beneficiary is deemed, for purposes of subparagraph 107(l)(a)(ii), to be nil. Generally, the beneficiary's proceeds of disposition in respect of the capital interest are calculated in accordance with paragraph 107(2.l)(d). The beneficiary will be treated as having disposed of the capital interest for an amount equal to the fair market value of the property, less the portion of the distribution that is a payment to which paragraph (h) or (i) of the definition of "disposition" in subsection 248(1) applies, and any eligible offset as defined in subsection 108(1). As a result, the beneficiary may realize a capital gain on the disposition of their capital interest in the trust.

Subsection 107(2.002) lacks a prescribed form. For the taxation year in which the non-resident trust distributes property, the beneficiary should send a letter to CRA with their return (or mail separately if the return was filed electronically) stating:

• a declaration to elect under subsection 107(2.002) of the Act;
• the name and address of the beneficiary;
• the beneficiary's CRA identification number (for example, social insurance number, business number etc.);
• the taxation year;
• a description of the property being distributed in satisfaction of the capital interest in the trust;
• the cost amount of the property to the trust;
• the fair market value of the property at the time of the distribution;
• the adjusted cost base of the beneficiary's capital interest in the trust;
• description and name of the trust;
• name and address of the trustee(s); and
• country of residence of the trust.

Also included is a general description of the gains consequences of making the election.

A personal trust holds a principal residence of a specified beneficiary (as defined in subpara. (c.1)(ii) of the "principal residence" definition in s. 54), and has several other beneficiaries who are not specified beneficiaries.

If the trust distributes the principal residence to all the beneficiaries equally and makes a s. 107(2.01) designation, the designation will not be invalidated because the other beneficiaries are not specified beneficiaries (as only one such beneficiary is required). Respecting the reference in s. 107(2.01) to a distribution "by the trust to the taxpayer," the singular includes the plural.

If no election is made, then each beneficiary claiming the principal residence exemption must, in his or her own right, satisfy the requirements of ss. 40(2)(b) and (c), although s. 40(7) will deem a residence acquired by a beneficiary in satisfaction of a part of a capital interest in the trust to have been owned continuously since the trust last acquired it.

An individual purchased a housing unit for which he established a usufruct in favour of his parents. At all relevant times, the individual owned another housing unit, which he inhabited with his spouse and children. In order to dispose of the housing unit on which the usufruct was established to a third party, the usufructuaries renounced their right of usufruct.

CRA noted that, under s. 248(3), the parents and the individual were respectively deemed to be the income and capital beneficiaries of a trust, and that the renunciation gave rise to a dissolution of this deemed trust, with the result that s. 107(2) would apply to the deemed distribution of the trust property, unless an election was made under s. 107(2.01) or (2.001) in order for the trust to realize a gain for which it could claim the principal residence exemption.

Respecting the availability of the principal residence exemption to the trust, CRAs noted that, under para. (a.1) of the "principal residence" definition, the ordinary inhabitation requirement could be satisfied by a specified beneficiary, whose definition in subpara. (c.1)(ii) referenced “an individual who, at any time in the calendar year ending in the year, is beneficially interested in the trust (as defined in subsection 248(25)) and ordinarily inhabited the housing unit or has a spouse or common-law partner, former spouse or common-law partner or child who ordinarily inhabited the housing unit.” CRA then stated:

If this is the case, it is permitted for a personal trust to elect under subsection 107(2.01) to ensure that the rollover provision of subsection 107(2) does not apply in respect of a distribution of property that could have been designated as the trust's principal residence before the distribution.

The correspondent also suggested that s. 13(7)(e) does not apply on a s. 107(2.1) distribution of property: although s. 107(2.1)(a) and (b) respectively deem the trust to have disposed of the property and the beneficiary to have acquired it, s. 107(2.1) does not deem the beneficiary to have acquired the property from the trust. CRA rejected this argument given inter alia that the preamble to s. 107(2.1) stipulates as a precondition to its application that there be a disposition of property by the trust to the beneficiary - and also noted that s. 251(1)(b) provides that a beneficiary and a trust of which he or she is a beneficiary are deemed not to deal with each other at arm's length.

A corporation sold the usufruct respecting a property to an arm’s length third party for use as a secondary residence, while retaining the bare ownership, and with the usufruct ending when the bare owner redeemed the rights belonging to the usufructuary. CRA provides a general discussion of the application of the Act to the deemed contribution of property to a trust of which the bare owner and usufructuary are the beneficiaries, and of the application of s. 107(2.1) to the winding up of the trust in connection with the termination of the usufruct. “By reasons of the consideration that the usufructuary was required to pay to the Grantor of the usufruct, the trust is not a personal trust,” so that s. 107(2) did not apply.

A unit trust (Trust 1), after selling units of a subsidiary LP to its parent (Subco) in consideration for a note, purchases for cancellation most of its units held by Subco in consideration for the transfer to Subco of debt owing by Subco. Rulings that s. 107(2.1) applies to this transaction – but that ss. 53(2)(h)(i.1)(A) and 53(2)(h)(i.1)(B)(I) will apply such that the ACB of the Trust I Units to Subco will not be reduced by the amount of the capital gain which was thereby distributed to Subco, and that Subco will realize a capital loss.

An inter vivos trust that was a personal trust (the “Trust”), holding 600 shares of Xco (a CCPC with a bond portfolio) with a nominal ACB and PUC of $600 and an FMV of $1,200,000, distributed those shares equally to its “Beneficiaries” (three sets of cousins totaling six in number). In its recitation of the facts, CRA accepted that by virtue of an election by the Trust pursuant to s. 107(2.001), s. 107(2.1) applied to this distribution, so that Trust realized deemed proceeds of $1,200.000 (resulting in a taxable capital gain of $99,950 being allocated to each Beneficiary under s. 104(21)), each Beneficiary was deemed to have acquired 100 shares at a cost of $200,000, and each Beneficiary disposed of the beneficiary’s capital interest in the Trust for proceeds of $100, which under s. 107(1)(a) had a deemed ACB equal to the cost amount of the distributed shares of $100 – so that no gain was realized on the disposition of each such capital interest.

Can a distribution of property to which ss. 107(2.1)(a) and (b) apply give rise to a capital loss to the trust or beneficiary? CCRA responded:

Given the wording of paragraphs 107(2.1)(a), (b) and (c), a distribution of property made in the circumstances referred to in subsection 107(2.1) may therefore, in certain circumstances, give rise to the realization of a capital loss by the distributing trust and by the beneficiary or beneficiaries of the trust to whom the property was distributed.

Regarding a resident qualifying spousal trust that provided that on the death of the surviving spouse, the residue of the trust property was to be distributed in equal shares to the surviving spouse's children, CCRA discussed the consequences to the surviving spouse of disposing of their income interest in the spousal trust for a lump sum, followed by an accelerated distribution of the capital to the children. It stated:

[A] spousal trust referred to in subparagraph 104(4)(a.1)(i) remains a trust referred to in that subparagraph even if the surviving spouse has disposed of their entire income interest. Consequently, if the trustees obtain court approval for distributing the residue of the trust property to capital beneficiaries other than the spouse while the spouse is still alive, subsection 107(4) will apply and the distribution of the property will be subject to the provisions of subsection 107(2.1).

Consequently, there would be a deemed disposition of the distributed property at its FMV (not of concern where cash was distributed), a deemed disposition by the beneficiary of their capital interest in accordance with s. 107(2.1)(c) for the excess of the distributed properties’ FMV over its cost amount plus any assumed liabilities, but with CCRA noting that this generally would not entail any adverse consequences since the deemed proceeds of the capital interest would essentially correspond to its ACB as determined pursuant to s. 107(1)(a).

Where a member of an agency co-operative receives her proportionate share of machinery of the co-op on withdrawal therefrom, the rules in s. 107(2.1) rather than s. 107(2) will apply.

S.107(2.1) acts in concert with s. 52(6) to ensure that distributions of income and taxable capital gains retain their identity as income for tax purposes.

As there is no prescribed form, how is the election made? CRA indicated that the trust should include in a letter attached to the T3 Return: a declaration that it is electing under s 107(2.11); its name and trust account number; the name and residence status of the beneficiary receiving the distribution; and the distributed property's description, ACB and FMV.

CRA sets out, inter alia, the information that CRA requires for a s. 107(2.11) election. A letter containing this information should be included with the taxpayer's T3 form.

In the absence of the election, a distribution by a resident testamentary trust holding shares of a publicly traded corporation (that are not taxable Canadian property) to a non-resident beneficiary would result in the taxable capital gain realized on that distribution being subject to Part XIII tax.

Regarding the scope of the election under s. 107(2.11), CCRA stated:

[W]here the election provided for in that provision is made in respect of a taxation year, it will apply to all distributions of property that were made in that taxation year in the circumstances referred to in subsection 107(2.1). The effects of this election cannot therefore be limited to any of the distributions of property made by the trust in the circumstances referred to in subsection 107(2.1).

A housing unit is subject to a usufruct created by the Quebec will of Mr. X, with Mr. X’s surviving spouse (Ms. X) being the usufructuary, and their daughter being the bare owner. Ms. X ordinarily inhabits the housing unit.

The creation of the usufruct would create a deemed (testamentary) trust under s. 248(3), which would qualify as a spousal trust for purposes of the s. 70(6) rollover to such trust of the residence assuming that, under the terms of the will, no person other than Ms. X would be entitled during her lifetime to receive or otherwise obtain the use of any part of the income or capital of the trust.

Regarding the consequences of the death of the usufructuary (which would cause the deemed trust to cease to exist) or the sale of the residence during the life of Ms. X, CRA stated:

At the time the deemed trust ceases to exist, since the distribution of the property, the residence, by the deemed spousal trust (a trust described in subparagraph 104(4)(a)(i)) would be made to a beneficiary other than Mr. X's spouse, subsection 107(4) would apply. That would have the effect of subsection 107(2.1) applying to the distribution of the property held by the trust to the bare owner. By virtue of paragraph 107(2.1)(a), the deemed trust would be deemed to have disposed of the property for proceeds equal to its FMV, and under paragraph 107(2.1)(b), the bare owner would be deemed to have acquired the property at a cost equal to its FMV.

The sale of the residence to a third party who acquired both Ms X's and her daughter's rights would also result in the realization of a capital gain or loss at the level of the deemed trust and would result in the extinction of the trust, since the qualities of usufructuary and bare owner would be combined in the same person, the third party purchaser.

In both of the above situations, a disposition of the residence for its FMV would then be recognized at the trust level, with the result that a capital gain could be realized at the trust level.

Regarding the consequences of the alternative scenario of the bare owner (the daughter) assigning her bare ownership interest in the residence to her mother, the usufructuary (Ms X), or predeceasing her mother, CRA indicated that, pursuant to s. 70(5) or 69(1)(b), the bare owner would be deemed to have received the FMV of the capital interest in the deemed trust on its deemed disposition on her death, or on its assignment to the usufructuary, respectively. Moreover, the assignment to the usufructurary would cause the deemed trust’s termination, so that the housing unit would be distributed to the usufructuary pursuant to s. 107(2).

Father acquired a rental property (the "Immovable") in 1956 and, on his death in 1994, devised the usufruct of the Immovable to his wife ("Mother") and the bare ownership of the Immovable to his daughter ("Daughter"), who had been living in and renting a housing unit in the Immovable since 1988, continued to pay rent after Father’s death. Mother renounced her usufruct during her lifetime in favour of Daughter. or, alternatively, such usufruct was devised to Daughter upon Mother's death.

After noting that the usufruct had created a deemed trust (the “Trust”) under s. 248(3), CRA indicated that if the Trust was a spouse trust, then if Mother transferred, during her lifetime, her interest in the income of the Trust to Daughter, there would be a resulting termination of the Trust and a distribution of the Immovable by the Trust to Daughter, in settlement of her interest in the capital of the Trust, would be made at FMV. Here the conditions of s. 107(4) appeared to be satisfied because: (1) the Trust was a spouse trust referred to in s. 104(4)(a); (2) at the time of the transfer, Mother (the surviving spouse) was not the beneficiary of the property since it was to Daughter that the Trust distributed the Immovable; and, (3) Mother was still alive on that distribution day. Consequently, s. 107(2.1) applied and deemed the Trust to dispose of the Immovable at FMV at that time to Daughter and Daughter to acquire it at that same value.

In the event that Daughter was distributed the income interest in the Trust of Mother on Mother's death, s. 107(4) did not apply because Mother was deceased at the time the Immovable was distributed to Daughter.

CRA ruled that the s. 107(2) rollover applied (and s. 245(2) did not apply) to the distribution by a non-resident trust, to which s. 94(8.2) (or s. 75(2)) no longer applied because its settlor had been dissolved, of Canadian rental property to its sole beneficiary, which was a (presumably non-resident) corporation related to the Canadian-resident lessee of the property. No representation was made that the settlor was not wound-up to permit accessing the rollover.

S. 75(2) applied to a personal trust respecting a gold coin that had been settled on it by one of the capital beneficiaries. The Trust also used proceeds of an arm’s length loan to acquire securities from an arm’s length vendor (the “Vendor”) to which s. 75(2) did not apply. Would s. 107(4.1) apply (after the settlor’s death) to distributions of the securities to the settlor’s children while the Vendor was still alive? CRA responded:

[D]uring the existence of the Settlor, any distribution of property to a capital beneficiary (other than the gold coin to the Settlor), will trigger the application of subsection 107(4.1).

Since it is indicated that at the time the Trust will distribute the securities, the Settlor was not alive, subsection 107(4.1) will not apply given that the condition in paragraph 107(4.1)(d) will not be met. … The fact that property was received from the Vendor in a fair market value purchase will not be relevant.. .

where a cottage is contributed to an inter vivos trust by a Canadian-resident individual (B) who is one of the beneficiaries, then the s. 107(2) rollover will be available if the cottage is distributed to B out of the trust (e.g., in advance of the 21-year deemed disposition date under s. 104(4), given that B will be "the person...from whom the particular trust...received the property); however, the rollover will be available if the cottage is distributed out to another capital beneficiary (D) at a time that the contributor (B) is still living as the quoted condition will be satisfied. CRA stated:

It should be noted that the fact that D has never contributed any property to the trust is not relevant in this case, as the property referred to in subparagraph 107(4.1)(c)(i) is the property referred to in pargraph 107(4.1)(b), which is the cottage that was contributed to the trust by B: Ref 1999-0013085 ...and 2002-0118255.

A transferor transfers ownership of property to a Quebec personal trust of which he is a beneficiary. CCRA then noted that a distribution of that property to a beneficiary other than such settlor would by virtue of s. 107(4.1) be subject to s. 107(2.1), not s. 107(2).

S.107(4.1) does not apply where a trust distributes property back to the settlor.

Where there are identical properties some of which were transferred to the trust by the settlor and some of which were not, it is RC's practice to allow the trust to identify which properties were distributed, except that s. 245 will be applied where the only purpose of the transactions is to shift the adjusted cost base of property from the settlor to another taxpayer or vice versa.

S.75(2) can be considered to be applicable even if there has been no income attribution by the trust to the settlor under that provision.

A Canadian resident discretionary family trust (the “Trust”) holds taxable Canadian property (e.g., shares of a Canadian realty company) not described in ss. 128.1(4)(b)(i) to (iii) (the “Property”). In order that beneficiaries who are non-resident (“NR”) beneficiaries can ultimately receive the Property, the trustees distribute the Property on a s. 107(2) rollover basis to one or more Canadian corporations (“Canco”) that are wholly owned by one or more of the NR beneficiaries. After referencing a largely identical response in 2019-0823581C6, CRA stated:

[I]f the Property distributed to Canco constitutes taxable Canadian property, other than a property described in subparagraphs 128. 1(4)(b)(i) to (iii) or a share of the capital stock of a non-resident-owned investment corporation, such transactions would result in a misuse or abuse of subsections 107(2), (2.1) and (5). Subsections 107(2.1) and (5) effectively result in the immediate realization of capital gains on property distributed to non-residents over which Canada does not retain the absolute right to tax without restriction. It is the CRA’s view that the intention of subsection 107(5) is to ensure that Canada maintains the ability to tax capital gains that accrue during the period that property is held by a Canadian resident trust and that the transactions described herein are not consistent with this intention.

The CRA has significant concerns regarding these transactions and will consider the application of the General Anti-Avoidance Rule (GAAR) when faced with a similar set of transactions unless substantial evidence supporting its non-application is provided. In addition …, it would be appropriate to consider that the same conclusion would apply regardless of whether or not the transactions are being undertaken to avoid the 21-year deemed disposition rule in subsection 104(4).

As a discretionary irrevocable personal family trust, which had non-resident beneficiaries (Y and Y’s spouse (Z)), was approaching the 21-year deemed realization date, its trustees resolved to distribute an equal share of the Trust’s assets to each of Y and Z to the complete exclusion of any other beneficiary (the “vesting”). After the vesting, Y and Z assigned their respective capital interests in the Trust under s. 85(1) to an unlimited liability company (“ULC”).

CRA found that ULC did not become a beneficiary under the Trust as the Trust indenture defined “Beneficiary” to mean Y, Y’s spouse (Z) and Y’s issue, and the trustees were not empowered to vary the Trust or to add new beneficiaries. This meant that taxable dividends paid by the Trust to ULC were includible in the income of Y and Z under s. 104(13), i.e., were subject to Part XIII tax under s. 212(1)(c)

Similarly, “the transfer of the Trust’s assets to ULC … was for the benefit of Y and Z,” and s. 107(2.1) thereby applied to deem them to be disposed of for fair market value proceeds.

The beneficiaries of a Canadian resident discretionary family trust (the “Trust”) are individuals who are intended to receive the Trust’s property (not described in ss. 128.1(4)(b)(i) to (iii)) who had emigrated from Canada as well as one or more Canadian companies (“Canco”) that are wholly owned by one or more of such beneficiaries. The trustees propose to distribute such property s. 107(2), to Canco. Does CRA agree that the transfer occurs on a tax-deferred basis under s. 107(2)?

After noting that 2016-0669301C6 and 2017-0693321C6 dealt with a distribution to a Canadian corporation whose shares were wholly owned by a newly established Canadian-resident discretionary trust, CRA indicated that, in this scenario, any capital gain on the property distributed to Canco may be deferred beyond the 21^st anniversary of the trust, and potentially beyond the lifetime of the non-resident beneficiary - or indefinitely, and that this deferral would not be achieved if the beneficiary were a Canadian individual resident. The transactions here did not achieve the intention of s. 107(5) of ensuring that Canada maintains the ability to tax the gain that accrued while the property was held by the Canadian trust, and also contravened one of the underlying principles of the capital gains system (supported by ss. 70(5), 104(4) and 107(2)) that the gain that accrued in Canada should be taxed. Accordingly, CRA will consider applying GAAR, when faced with a similar set of transactions, if there is not substantial evidence supporting the non-application of GAAR.

After being referred to proposed amendments to s. 107(5) to be effective for distributions made after February 27, 2004, CRA stated:

we agree with your conclusion that where property distributed by a non-resident trust is either shares of the capital stock of a non-resident owned investment corporation or property described in subparagraphs 128.1(4)(b)(i) to (iii), under either the currently enacted version or the proposed amendments to subsection 107(5), subsection 107(2) of the Act would apply to the distribution (if the conditions therein are met and subsection 107(4.1) is not applicable).