In December 2014, legislation was passed which significantly changed the taxation of certain types of testamentary trusts such as spousal/common law partner trusts, joint partner trusts and alter ego trusts, more commonly referred to as life interest trusts.
In our November 25, 2014 Tax Alert, we outlined how the rules could result in a mismatch of tax liability to assets. Essentially, the life interest trust now has a year-end at the end of the day the surviving spouse (i.e. beneficiary spouse) dies. Additionally, the new rules treat the life interest trust’s income for the short year as having been paid to the beneficiary spouse in that year. The result is that the beneficiary spouse has an income inclusion from the trust, including capital gains considered to be realized in the trust as a result of the death. However, the trust maintains ownership of the underlying assets. This could be problematic where the beneficiaries of the deceased’s estate are different than the beneficiaries of the life interest trust.
After receiving input from the tax community, the Department of Finance released a letter in November 2015 in which it acknowledged concerns with respect to the amended trust legislation. Included in this letter was Finance’s acknowledgement of the mismatch of the tax liability to the underlying assets.
Following the November letter, Finance released draft legislation on January 15, 2016 which now proposes to tax the life interest trust’s income in the hands of the beneficiary spouse only where, among other criteria, the Graduated Rate Estate (“GRE”) of the beneficiary spouse and the life interest trust jointly elect to have the rules apply. This effectively relieves the mismatch of the tax liability with the underlying assets, but allows the estate the option to have the mismatch apply where there are non-tax reasons to do so. The proposed amendments are applicable for the 2016 and subsequent taxation years.
The proposed legislation also amends how charitable donations can be claimed by an estate. The current legislation permits donations made by the individual’s GRE to be allocated to the taxation year of the estate in which the donation is made, an earlier taxation year of the estate, or the last two taxation years of the deceased individual. The donation must relate to property that was acquired by the estate on and as a consequence of the death of the individual (or must be property that was substituted for that property). However, if the estate makes a donation after it ceases to be a GRE, because of the expiry of the 36-month period following death, the estate is no longer able to carry the donation back to the individual’s terminal tax return or the immediately preceding return.
The January 2016 draft legislation resolves this issue and allows donations made by an estate within 60 months following the death of the individual to be carried back to the individual’s final return or the immediately preceding return. Therefore, even where donations are made by the estate after it ceases to be a GRE, the ability to carry back the donation to the individual’s last two tax returns will still be available.
To see a table providing a summary of proposed changes with respect to donations made by an estate please click here to learn more
Similar amendments are proposed for a life interest trust. If a life interest trust makes a donation within 90 days after the end of the calendar year in which the beneficiary spouse dies, the donation can be carried back to the short taxation year of the trust that resulted from the beneficiary spouse’s death. For example, assume Mrs. A is the beneficiary of a spousal trust and passes away on May 5, 2016 and the spousal trust makes a donation before March 31, 2017. The spousal trust will be treated as having a year-end on May 5, 2016 and can apply the donation to this year-end. Alternatively, the trust can utilize the donation in the year it is made or carry it forward.
These proposed amendments are effective for deaths that occur after 2015.
At the 2015 Society of Trust and Estate Practitioners (“STEP”) Conference, the CRA confirmed that even where an individual has multiple wills, it generally considers the deceased to have only one estate encompassing all of the worldwide property. Therefore, despite the fact that many taxpayers utilized multiple wills for probate planning purposes, this on its own will not result in the creation of multiple estates for which only one can be designated as a GRE. However, where there are multiple wills with different beneficiaries and different trustees it may create multiple estates, only one of which would be entitled to be treated as a GRE.
For a more in-depth discussion of these changes and how they may impact you and your organization, contact your Collins Barrow tax advisor.
Sarah Netley, MAcc, MTax, CPA, CA, is a tax manager in the Durham office of Collins Barrow.
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