2 February 2006 External T.I. 2005-0111911E5 F - Participation indivise dans un immeuble-fiducie
Principal Issues: [TaxInterpretations translation]
How should the capital gain realized by a testamentary trust on the sale of its undivided interest in an immovable property held by the testator and his spouse before 1972 be calculated?
Position:
None. General comments.
Reasons:
Interpretation of the Act.
XXXXXXXXXX Danielle Bouffard 2005-011191 February 2, 2006
Dear Sir,
Subject: Request for technical interpretation:
Calculation of a capital gain for a trust
This is in response to your letter of January 14, 2005, requesting our opinion on the above subject. We have taken into account the additional information you provided on October 13, 2005. We apologize for the delay in responding to this request.
Facts
Mr. X and Ms. X were married under the legal regime of community of property. By will, Mr. X had given and bequeathed the usufruct of the residue of all his movable and immovable property to Ms. X and the bare ownership to his children. Amongst other things, Ms. X and Mr. X each owned an undivided share in a property with two housing units ("the Immovable"), of which one of the housing units, representing XXXXXXXXXX% of the surface area of the Immovable, had been their principal residence since the acquisition of the Immovable and the other housing unit, representing XXXXXXXXXX% of the surface area, was rented. They had acquired the Immovable in XXXXXXXXXX.
At the time of Mr. X's death in XXXXXXXXXX, the usufruct of all the property held by Mr. X, including his undivided share in the Immovable, devolved to Ms. X and the bare ownership devolved to the children. Ms. X remained in her home following the death of Mr. X. In XXXXXXXXXX, the Immovable was sold. The trust also holds other assets, such as investments. The trust's taxation year ends on XXXXXXXXXX.
Question
How should the trust calculate the capital gain on the disposition in XXXXXXXXXX of its undivided share of the Immovable?
Our Comments
As stated in paragraph 22 of Information Circular 70-6R5 dated May 17, 2002, it is the practice of the Canada Revenue Agency (the "CRA") not to issue written opinions on proposed transactions otherwise than through advance rulings. Furthermore, when it comes to determining whether a completed transaction has received appropriate tax treatment, that determination is made first by our Tax Services Offices as a result of their review of all facts and documents, which is usually performed as part of an audit engagement. However, we can offer the following general comments. These comments may, however, under certain circumstances, not apply to your particular situation.
Paragraph 248(3)(a) of the Income Tax Act (the "Act") deems a usufruct to be a trust created by will, and the property subject to a usufruct is deemed to have been transferred to the trust (the "Trust") as a consequence of the death of the testator and to be held in trust and not otherwise. Consequently, in the present case, following the death of Mr. X, his undivided share of the Immovable was deemed to be held by the Trust. Ms. X thus became the owner of an income interest and her children became the owners of a capital interest in the Trust. As such, they are all considered to have beneficial interests in the Trust.
Based on the information you have provided, we understand that the Trust is a "testamentary trust" as that term is defined in subsection 108(1), since it was created as a consequence of the death of Mr. X. In addition, the Trust is a "personal trust" since it meets the test set out in paragraph (a) of that definition in subsection 248(1). Finally, again according to the information provided, the Trust does not qualify as a spousal trust as described in paragraph 70(6)(b).
Since at the time of Mr. X's death, the Trust was not a spousal trust, there was a transfer of all the property held by Mr. X at fair market value ("FMV") pursuant to subsection 70(5) and thus, for Mr. X, a resulting computation, at the time of death, of a capital gain on the disposition of, inter alia, his undivided share in the Immovable. The Trust was deemed to have acquired the property thus disposed of by Mr. X at a cost equal to that FMV, except for the property held by Mr. X on December 31, 1971. Since the Trust did not deal at arm's length with Mr. X, it must take into account the rules set out in, inter alia, subsections 20(1) and 26(5) of the Income Tax Application Rules ("ITAR") in computing the capital gain on its interest in the two housing units. (see comments in the section entitled "Cost of acquisition of capital property owned at the end of 1971”.)
According to the information you provided, Mr. X's estate calculated and declared a capital gain only on the rental part of his undivided share in the Immovable. We do not have enough information to determine whether the building had two separate housing units. The fact that there are two different civic numbers (which seems to be the case in your situation) is an indication that there are two housing units. However, other elements may also come into play, such as separate entrances, separate heating systems, separate hot water tanks, a tax account with two civic addresses, etc. For present purposes, we have assumed that the Immovable had two separate housing units. Thus, in XXXXXXXXXX, the Trust disposed of an undivided interest in two housing units, one of which was the housing unit of Ms. X and the other of which was rented and constituted depreciable property for the purposes of the Act.
Housing unit inhabited by a beneficiary of the Trust
A taxpayer who, in a taxation year, owns a property, including a dwelling, with another person or otherwise, may, when disposing of it, designate the property as his or her principal residence and claim the principal residence exemption if certain conditions are met. A taxpayer's principal residence is deemed to include the land subjacent to the housing unit and the portion of the land adjacent to it, which should not normally exceed one-half hectare. Where the taxpayer is a personal trust, the housing unit must ordinarily be inhabited in the calendar year ending in the taxation year by, inter alia, an individual who is beneficially interested in the trust. In your case, Ms. X ordinarily inhabited one of the housing units and is beneficially interested in the trust. To claim the principal residence exemption, the Trust must designate, for the XXXXXXXXXX taxation year, its undivided portion of the housing unit inhabited by Ms. X, in prescribed form and manner, as its principal residence and the designation must include the name of the individual (i.e., Ms. X) who, during the calendar year ending in the year, is beneficially interested in the Trust and ordinarily inhabited the housing unit (the "specified beneficiary"). For more information on the calculation of the principal residence exemption by a personal trust and the impact of the designation on the specified beneficiary or beneficiaries, please refer to paragraphs 35 to 37 of Interpretation Bulletin IT-120R6. You can consult this document on the Canada Revenue Agency website at the following address: http://www.cra-arc.gc.ca/E/pub/tp/it120r6/READ-ME.html.
Capital property held at the end of 1971
Capital gains accrued before 1972 on capital assets held by a taxpayer at the end of 1971 are not subject to taxation. Although the Trust did not "own" the undivided interest in the two housing units at the end of 1971, that interest vested in the Trust upon the death of Mr. X, a person with whom the Trust was not dealing at arm's length. As stated above, since the rules in subsection 70(5) applied, the Trust must take into account the rules in subsection 20(1) of the ITAR for the purposes of calculating the capital gain on its interest in the leased housing unit. On the other hand, with respect to the undivided interest in the housing unit inhabited by Ms. X, the provisions of subsections 26(3) and 26(5) of the ITAR should be considered for the purposes of calculating the adjusted cost base of that unit. For your information, we refer you to Form T1105 Supplementary Schedule for Dispositions of Capital Property Acquired Before 1972 (copy attached) to calculate the capital gain on the sale of these two housing units.
If a review of the calculation of the Trust's capital gain on its interest in the two housing units is required, you are encouraged to contact your local Tax Services Office who will be able to assist you in determining the data that is required for such calculations.
In conclusion, taking into account only the information provided for the calculation of the capital gain made by the Trust for its interest in the rented housing unit, it seems unlikely to us that the provisions of subsection 20(1) of the ITAR apply. Thus, the calculation of the adjusted cost base of that interest should take into account the FMV of the interest at the time of Mr. X's death, adjusted to include the capital expenditures made on that housing unit between the time of death and the time of the sale in XXXXXXXXXX.
These comments are not advance income tax rulings and do not bind the CRA with respect to any particular factual situation.
Best regards,
Alain Godin
For the Director
International Operations and Trusts Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch