Principal Issues: [TaxInterpretations translation] 1. Does subsection 75(2) lend itself to apply in the hypothetical situation with respect to corporate beneficiaries of the unit trust?
2. Will the corporate beneficiaries be taxed on the trust's income under subsection 104(13), allowing elections under subsections 104(13.1) and 104(13.2) to be made?
3. If subsection 75(2) were to apply in respect of a unit trust, would paragraph 248(28)(a) be available to prevent double taxation arising from paragraph 53(2)(h) reductions to the ACB of a beneficiary's capital interest?
Position: 1. Yes.
2. Generally yes.
3. General comments.
Reasons: 1. Question de fact.
2. Question of fact and the wording of the Act.
3. Question of fact, application of the Act, and position provided for in para. 10 of IT-369R.
XXXXXXXXXX 2008-030124 Yannick Roulier Attention: XXXXXXXXXX
April 3, 2009
Dear Sir:
Subject: Unit trust - Subsection 75(2) of the Act
This is in response to your letter of November 18, 2008 in which you requested our opinion on the application of subsection 75(2) of the Income Tax Act in a hypothetical situation involving a unit trust.
Note that the legislative references below are to the provisions of the Income Tax Act (R.S.C. 1985, c. 1 (5th Supp.)) as amended (the "Act"), in force as of the date hereof.
Hypothetical Situation
- A trust is constituted by onerous title by virtue of article 1269 of the Civil Code of Québec. The trust indenture stipulates that the capital interests in the trust must be issued in consideration of monetary considerations.
- The trust deed provides for a single class of units and each of them carries the same rights, privileges, conditions and restrictions.
- The trust indenture states that the capital interests of the trust may not at any time be owned by persons not resident in Canada.
- The annual income of the trust is paid or payable at the end of each taxation year of the trust to the beneficiaries according to the ratio represented by the number of units held by each of them over the number of issued and outstanding units of the trust.
- The trust qualifies as a unit trust ("UT") pursuant to subsection 108(2). The trust does not qualify as a mutual fund trust ("MFT") pursuant to subsection 132(6).
- The purpose of the trust is to make various real estate investments, including the acquisition, holding, maintenance, improvement, leasing, management, development and operation of commercial real estate projects. In addition, it may in particular, acquire, lease or manage other types of property or make investments in movable property.
- The beneficiaries of the trust are three Canadian-controlled private corporations, as defined in subsection 125(7), that have each paid monetary consideration to the trust based on the number of units acquired in consideration for their capital interest in the trust.
- Each of the beneficiaries of the trust appoints one of its directors as trustee of the trust.
- The beneficiaries of the trust deal with each other at arm's length. The same applies to the relationship between the three trustees of the trust.
- The trustees may make various tax elections, including elections under subsections 104(13.1) and 104(13.2).
Questions
1. Is subsection 75(2) likely to apply with respect to the corporate beneficiaries of the trust in the hypothetical situation?
2. Will the beneficiary corporations be taxed on the trust's income by virtue of subsection 104(13), allowing elections under subsections 104(13.1) and 104(13.2) to be made?
3. If subsection 75(2) were to apply respecting the UT in the hypothetical situation, could paragraph 248(28)(a) be invoked to prevent double taxation arising from the paragraph 53(2)(h) reductions to the adjusted cost base ("ACB") of a beneficiary's capital interest in the trust?
Comments
It appears to us that the situation described in your letter could constitute an actual situation involving taxpayers. As explained in Information Circular 70-6R5 issued on May 17, 2002, it is the practice of the Income Tax Rulings Directorate of the Canada Revenue Agency (the "CRA") not to issue written opinions regarding proposed transactions otherwise than by way of advance income tax rulings. Please note that the model trust indenture that you have attached to your application has not been analyzed. Our Directorate only conducts a specific analysis of documents in the context of files leading to the issuance of advance income tax rulings. If your situation involves a specific taxpayer and a completed transaction, you must forward all relevant facts and documents to the appropriate CRA Tax Services Office for its views.
Question 1 -Application of 75(2)
It is our view, subsection 75(2) would lend itself to application in the hypothetical situation outlined above. This is because a UT that does not qualify as an MFT pursuant to subsection 132(6) is not specifically excluded from the application of subsection 75(2) under subsection 75(3). However, the nature of the income earned by the trust in this situation is not specified. It should be noted that subsection 75(2) would be inapplicable where the source of a trust's income is a business, as set out in paragraph 5 of Interpretation Bulletin IT-369R.
It is appropriate to specify that the analysis as to the application of subsection 75(2) must be carried out both with respect to any contribution in the form of monetary consideration giving rise to the issuance of units by the trust and with respect to any other contribution that may be made to the trust. In addition, this provision would lend itself to application to persons who are not beneficiaries of the trust under the trust indenture.
Furthermore, it appears to us that the CRA would not systematically consider subsection 75(2) applicable with respect to situations involving the issuance of units of a trust that qualifies as a UT without qualifying as an MFT, particularly in situations where the following conditions are satisfied:
- the issue of units by a UT to a taxpayer is made in the context of an investment by the taxpayer in exchange for monetary consideration corresponding to the fair market value of the units issued,
- the tax elections that may be made by the trust, such as those provided for in subsections 104(13.1) and 104(13.2), must be capable of being made only in such a way as to result in uniform tax implications for all beneficiaries owning units with the same rights, privileges, conditions and restrictions; and
- there are no terms and conditions linking the units to any asset or class of assets of the trust.
However, an analysis of all the relevant facts and documents would be required in order to make a final determination on the application of subsection 75(2) in a particular situation, which could be done in the context of an application for an advance ruling.
Question 2 - Taxation of Beneficiary Corporations
Where subsection 75(2) would not apply in respect of the property of a UT that does not qualify as an MFT, the income of the UT would generally be included in the income of the beneficiaries under subsection 104(13). Note that such income would be deemed by virtue of subsection 108(5) to be income that the beneficiary earned for the year from property that is an interest in the trust and not income from a business or other source.
In addition, if subsection 75(2) is not applicable, an income inclusion for a beneficiary may generally be made under subsection 104(13) and elections under subsection 104(13.1) or 104(13.2) could be made. Subsection 75(2) deems, inter alia, any income or loss from the property or from property substituted for the property, held by the trust to be income or a loss, as the case may be, not of the trust but of the person subject to that subsection. In this situation, the conditions for the application of subsections 104(13.1) or 104(13.2) cannot be satisfied.
Question 3 - Application of 248(28)
It is not clear to us in what commercial circumstances the CRA would consider the annual income of an UT otherwise payable to the beneficiaries to be income of the beneficiaries under subsection 75(2), rather than under subsection 104(13).
In the event that subsection 75(2) were to apply in respect of monetary consideration received by the UT in consideration for the issuance of units to a taxpayer, the technical application of subparagraph 53(2)(h)(i.1) would involve the deduction of an amount against the ACB of the taxpayer's capital interest equal to the income designated under subsection 75(2) for a particular year that is otherwise payable to the taxpayer under the trust indenture. This is so because the designated income is not an amount included in the taxpayer's income under subsection 104(13).
Thus, as explained in your letter, the application of these provisions is likely to result in double taxation for the taxpayer for any taxation year in which subsection 75(2) applies or for a taxation year subsequent thereto, on the disposition of all or part of the taxpayer's capital interest or under subsection 40(3). As you point out in your request, administrative relief is provided in paragraph 10 of Interpretation Bulletin IT-369R so that income subject to the application of subsection 75(2) is not otherwise included in the income of a beneficiary or trust, as the case may be.
In a particular case and after a review of all the facts and circumstances surrounding the application of subsection 75(2), the CRA could extend this position so that no reduction to the ACB of a beneficiary's capital interest would be made by virtue of subparagraph 53(2)(h)(i.1). In this regard, it does not appear possible to provide you with a definitive opinion outside the context of an advance income tax ruling on proposed transactions.
In addition, we have doubts as to whether paragraph 248(28)(a) can be invoked to ensure that no negative adjustment can be made to the ACB of the taxpayer's capital interest to prevent double taxation.
We hope that the above comments are of assistance.
Best regards,
Alain Godin
for the Director
International Operations and Trusts Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch.