Principal Issues: Does section 116 of the Act applies to a distribution of property made in satisfaction of the capital interest of the non-resident beneficiaries in an estate?
Position: If the estate is resident in Canada, the capital interest in the estate will be a taxable Canadian property. In case of a distribution by the estate in satisfaction of the capital interest, that taxable Canadian property will be disposed pursuant to the definition of disposition in subsection 248(1) of the Act and section 116 of the Act will apply. The estate will be considered the purchaser for the purposes of subsection 116(5) of the Act.
Reasons: Provisions of the Act like 116 and 248(1). Section 116 does not provide fo treaty exempt status. Information Circular IC 72-17R5.
XXXXXXXXXX 2005-014996 Sylvie Labarre, CA March 6, 2006
Dear Sir:
Re: XXXXXXXXXX
This is in reply to your letter of August 25, 2005 sent to the International Tax Services regarding the application of section 116 of the Income Tax Act (the "Act") in the case of a distribution of the capital of an estate to non-resident beneficiaries who reside in Germany. The deceased resided in Canada.
In your view, section 116 of the Act should not apply to your situation because, inter alia, there is no sale, there would be a double-taxing of the funds paid to the non-resident beneficiaries, the non-resident beneficiaries never resided in Canada.
You request our views on that subject.
Our comments
Your request relates to a proposed transaction or a completed transaction. Confirmation of the income tax consequences of proposed transactions involving specific taxpayers will only be provided in response to a request for an advance income tax ruling. To make such a request the advance income tax ruling must be submitted in accordance with the guidelines set out in Information Circular 70-6R5. However, if the situation relates to a completed transaction a request for the Canada Revenue Agency's views must be made to the International Tax Services Office. We can, however, provide the following general comments.
Even if there was no sale from the estate to the non-resident beneficiary or from the non-resident beneficiary to the estate, the Act may provide that a disposition occurs in some circumstances. As set out in paragraph (d) of the definition of disposition in subsection 248(1) of the Act, a payment after 1999 in satisfaction of all or part of a beneficiary's capital interest in a trust (an estate is a trust) will give rise to a disposition of all or part of the beneficiary's capital interest in the trust. Therefore, in the situation that you have described in your letter, there would be a disposition.
The question is whether the capital interest in the trust is a taxable Canadian property even if the non-resident never lived in Canada and never owned an asset in Canada except for the capital interest in the trust. A capital interest in a trust resident in Canada (except, in most cases, an interest in a mutual fund trust) constitutes taxable Canadian property under the definition of that term in subsection 248(1) even if the non-resident never lived in Canada. The question of the residence of a trust or estate in Canada is a question of fact to be determined according to the circumstances in each case. Interpretation Bulletin IT-447 provides our views on the criteria used to determine the residence of a trust or an estate where that is not otherwise established in the Act.
Therefore, if it is determined that the estate is resident in Canada, the non-resident capital beneficiaries will own a taxable Canadian property even if they never lived in Canada and never owned any other assets in Canada and section 116 of the Act will apply when the estate distributes one or more of its properties to the non-resident beneficiary in satisfaction for all or part of the beneficiary's capital interest in the trust.
Section 116 of the Act sets out the procedure for collecting income tax from non-residents who dispose of taxable Canadian property. These rules aim to provide assurance that a non-resident of Canada will respect his or her obligation to pay Canadian income tax on disposition. Where a non-resident beneficiary disposes of his or her capital interest in a trust resident in Canada or part of it, he or she is required to file a Canadian tax return for the taxation year in which the disposition took place. In many cases, a capital gain will not result from the disposition because of the application of the rules provided for in paragraph 107(2.1)c) to determine the proceeds of disposition and in paragraph 107(1)(a) to determine the adjusted cost base of the capital interest. Furthermore, if there is a taxable capital gain, a deduction under subparagraph 110(1)f)(i) may be available to the non-resident beneficiary (that is a deduction for the amount exempt from income tax in Canada because of a provision contained in a tax convention or agreement with another country that has the force of law in Canada).
Paragraph 4 Article 13 of the Tax Convention between Canada and the Federal Republic of Germany (hereinafter "the Tax Convention") provides, inter alia, that gain derived by a resident of Germany from the alienation of an interest in a trust or estate the value of which is derived principally from immovable property situated in Canada may be taxed in Canada. Paragraph 6 of article 13 provides that gains from the alienation of any property, other than those mentioned in paragraphs 1 to 4 shall be taxable only in Germany if the alienator resides in Germany. There are special rules in paragraph 7 of Article 13 of the Tax Convention in the case of an individual who has been a resident of Canada and who has become a resident of Germany.
Therefore, if there is no taxable capital gain or the taxable capital gain is exempt from tax in Canada because of the Tax Convention, the amount paid pursuant to section 116 of the Act on behalf of a non-resident beneficiary will be refunded after the tax return is assessed or provision will be made for the release of security once the established debt has been satisfied.
For the purpose of applying section 116 of the Act, our view is that the trust making the distribution of capital to the non-resident beneficiary is considered to be the purchaser for the purposes of subsection 116(5) of the Act with the result that the trust would be liable under subsection 116(5) to pay the amount described in that subsection on behalf of the non-resident beneficiary. (See paragraphs 43 to 50 of Information Circular IC 72-17R5.)
Subsection 116(5) of the Act will not apply in a situation where a certificate under subsection 116(4) has been issued to the purchaser by the Minister of National Revenue in respect of the capital interest.
In the case, where the non-resident beneficiary file form T2062 Request by a Non-Resident of Canada for a Certificate of Compliance Related to the Disposition of Taxable Canadian Property and can show that no capital gain arises as a result of the disposition of the non-resident's capital interest in the trust (i.e. as shown by the calculation on form T2062), the trust will not be required to remit or post any amount as security since the amount shown on the certificate of compliance will equal the full amount of the distribution. For the purposes of the form T2062, the estate will be considered to be the purchaser and the non-resident beneficiary is considered to be the vendor.
As stated in paragraph 25 of Information Circular IC 72-17R5, section 116 does not provide for treaty exempt status. However, the CRA allows vendors to claim an exemption under a specific tax treaty at the time they file the notification of disposition. Paragraph 25 of IC 72-17R5 and Form T2062 explain what documents are needed for such a claim. Paragraph 28 of IC 72-17R5 states that the granting of exemptions at the time of notification of disposition is discretionary and that the vendor must provide documents to support the proceeds of disposition and the adjusted cost base of the property.
You will find more information on the application of section 116 of the Act in Information Circular IC 72-17R5.
We trust the above has been of some assistance and we regret the delay in responding.
Yours truly,
Alain Godin, Manager
for Director
International and Trusts Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch