If s. 75(2) were to apply respecting an alter ego trust, could the s. 104(13.1) election be made to tax the income within the trust? CRA stated:
An election under subsection 104(13.1) cannot be made to tax income earned on certain Trust property within the Trust if subsection 75(2) would apply in respect of such income. … This is so since, for the purposes of the Act, income reallocated under subsection 75(2) does not constitute income realized by the trust, paid or payable to Mr. X. …
In the event that subsection 75(2) is inapplicable … it would generally be possible to make an election under subsection 104(13.1) to tax income earned in a taxation year in the Trust. …
First, an election under subsection 104(13.1) could be made where the income for the year would be distributed to Mr. X. In the event that the trust tax attributable to such income would be paid by Mr. X, the payment of such tax would generally not constitute a contribution to the trust. The payment of the Trust tax by Mr. X could be made [by] …:
- reimbursement of the trustee by Mr. X,
- payment by cheques by Mr. X to the tax authorities in payment of Trust tax, or
- payment by the trustee to Mr. X of an amount representing the Trust's income for the year net of taxes payable.
Furthermore, all income earned by the Trust during the year may be distributed to Mr. X. In such a case, the payment of the tax attributable to such income by the Trust would result in an encroachment on its capital which may not be in compliance with the terms of the Trust Indenture.
Second, an election under subsection 104(13.1) could be made where Mr. X renounces the income payable to him by the Trust for the taxation year. In that situation, Mr. X would be considered to have made a capital contribution to the Trust. This contribution could subsequently lead to the application of subsection 75(2) in respect of Mr. X.