Words and Phrases - "indirect distribution"

Where a resident trust (other than a “reporting financial institution” (RFI), is a “passive non-financial entity” (Passive NFE), and has a “financial account” with an RFI, such RFI will have reporting obligations under Pt. XIX if one or more “controlling persons” are “reportable persons.” The s. 270(1) definition of “controlling persons” refers inter alia to the trust’s “settlors” and to a discretionary beneficiary to whom a distribution has been paid or made payable in the calendar year. The CRA’s Guidance on the Common Reporting Standard states that a “person is treated as a beneficiary if … they receive, directly or indirectly, a discretionary distribution from the trust … in the calendar year ... .”

A. What are examples of “indirect” distributions?

CRA indicated that, in light of ITA s. 270(2), the question of who was a beneficiary under the ITA “controlling persons” definition should be interpreted “consistently” with the OECD guidance on this point “unless the context otherwise provides.” In this regard, the OECD Q&A page (under "Section VIII" - "C. Financial Account" - Non-Reporting Financial Institutions - 11. Indirect distributions by a trust") was especially relevant:

Indirect distributions by a trust may arise when the trust makes payments to a third party for the benefit of another person. For example, instances where a trust pays the tuition fees or repays a loan taken up by another person are to be considered indirect distributions by the trust. Indirect distributions also include cases where the trust grants a loan free of interest or at an interest rate lower than the market interest rate a. In addition, the write-off of a loan granted by a trust to its beneficiary constitutes an indirect distribution in the year the loan is written-off.

In all of the above cases the Reportable Person will be person that is the beneficiary of the trust receiving the indirect distribution (i.e. in the above examples, the debtor of the tuition fees or the recipient of the favourable loan conditions).

This OECD commentary was stated to provide context as to what is referred to in such CRA guidance.

B. Would the CRA consider any contributor to the trust as a “settlor” for Pt. XIX purposes?

CRA noted that the OECD Model Competent Authority Agreement provides that an undefined term has the meaning that it has at the time under the law of the jurisdiction that implements the CRS (Canada, in this case), subject to the same “unless the context otherwise provides” qualification.

Under Canadian law, a settlor is the person who sets up the trust by contributing property to the trust. Turning to the OECD material, there is a general statement that a settlor is a natural or legal person who transfers ownership of their assets to trustees by means of a trust deed or similar arrangement. Of particular interest is that the UK chapter of STEP, in collaboration with the OECD, posted a Guidance Note on the interpretation of what “settlor” means in the CRS rules:

1.3 … [T]here may be trusts in existence where an individual (X) acts as the named settlor of the trust and contributes a nominal amount on its creation but where another individual (Y) then makes the substantive contribution of assets to the trust. In circumstances where trustees satisfy themselves that X has only made a nominal contribution to trust assets and that Y has made the substantive contribution, then applying AML/KYC principles, Y should be regarded as the settlor of the trust for CRS purposes rather than X. However, in accordance with CRS and FATF recommendations, HMRC consider that it is also necessary to identify and disclose X as a settlor and that the full value of the trust assets should be reported with respect to both X and Y notwithstanding the fact that X had added only a nominal amount.

CRA also indicated that the definition of “controlling person” is open-ended and that a person making a substantive contribution could also be viewed as a controlling person under the facts and circumstances.