Principal Issues: [TaxInterpretations translation]
1. Is the shareholder required to include a benefit in income as a result of the loan from the corporation to the trust?
2. Does the trust qualify for the principal residence exemption under paragraph 40(2)(b) of the Act because it rents the residence to its beneficiary?
Position:
1. In the present situation, the trust would be connected with the shareholder and would have to include the amount of the loan in its income, subject to the exception in subsection 15(2.6) of the Act. The other exceptions in subsections 15(2.2) to (2.7) do not appear to apply in this situation. Subsection 15(2) would not apply to the shareholder, since the shareholder is not the person who received the loan or incurred the debt from the particular corporation. If the income resulting from the application of subsection 15(2) is not paid or payable to the beneficiary according to the provisions of the trust indenture, or if subsection 104(13.1) applies to deem such income to not be paid or payable to the beneficiary, the trust would not receive any deduction for this amount so that the trust would be taxed on this amount and not the beneficiary.
2. If the beneficiary of the personal trust ordinarily lives in the residence, we are of the opinion that the personal trust can designate the residence as its principal residence as long as all the other conditions of the definition of "principal residence" are met, even if it rents the residence to that beneficiary.
Reasons:
1. The shareholder is beneficially interested in the trust under subsection 248(25) of the Act. Consequently, the shareholder does not deal at arm's length with the trust under paragraph 251(1)(b). The trust is therefore connected to the shareholder under subsection 15(2.1), so that subsection 15(2) will apply to the trust.
2. The definition of "principal residence" does not provide that a rented residence cannot constitute a principal residence where the tenant who inhabits the residence is a specified beneficiary of the personal trust or one of the persons referred to in paragraph (a.1) of that definition.
December 5, 2002
Mr. Martin Kirk Headquarters
East Quebec Tax Services Office Sylvie Labarre, CA
(613) 957-8953
Quebec Office
Tax Technical Interpretation Section
2002-017184Residence held by a trust
This is further to your fax dated November 4, 2002, in which you requested our interpretation of certain tax consequences arising from the construction and ownership of a residence by a personal trust in the following situation.
Facts
- Mr. X is the beneficiary of a personal trust.
- The corporation of which Mr. X is a shareholder makes a loan to the trust for the construction of a residence.
- The trust owns the residence.
- The trust rents the residence to Mr. X.
- Mr. X ordinarily inhabits the residence and uses it as his principal residence.
Questions
You wish to know if the shareholder, Mr. X, is required to include a benefit in income as a result of the loan from the corporation to the trust.
You also wish to know whether the trust could benefit from the principal residence exemption provided for in paragraph 40(2)(b) of the Income Tax Act (the "Act") since it rents the residence to its beneficiary.
Our Comments
Loan to the trust
In the situation you have presented to us, we are of the view that subsection 15(2) could apply to the trust in order to include in computing its income the amount of the loan made to it by the corporation.
Although the trust is not itself a shareholder of the lending corporation, subsection 15(2) could apply to the facts submitted if the trust is a person connected with a shareholder of the lending corporation, within the meaning of subsection 15(2.1). We are of the view that this expression includes a trust connected to a shareholder. A trust is considered to be a person for the purposes of the Act.
Subsection 15(2.1) provides that a person is connected with a shareholder of a particular corporation if that person does not deal at arm's length with the shareholder. Paragraph 251(1)(b) provides that a taxpayer and a personal trust (other than a trust described in any of paragraphs (a) to (e.1) of the definition of "trust" in subsection 108(1)) are deemed not to deal with each other at arm's length if the taxpayer, or any person not dealing at arm's length with the taxpayer, would be beneficially interested in the trust if subsection 248(25) were read without reference to subclauses (b)(iii)(A)(II) to (IV).
According to the information you have provided, Mr. X would be beneficially interested in the trust. Consequently, the trust would be connected with the shareholder and would have to include the amount of the loan in its income, subject to the exception in subsection 15(2.6). The other exceptions in subsections 15(2.2) to (2.7) do not appear to apply in this situation.
Subsection 15(2) would not apply to Mr. X since he is not the person who received the loan or incurred the debt from the particular corporation.
If the income resulting from the application of subsection 15(2) is not paid or payable to the beneficiary under the terms of the trust indenture, or if subsection 104(13.1) applies to deem that income not to be paid or payable to the beneficiary, the trust would not receive a deduction for that amount, so that the trust would be taxed on that amount and not the beneficiary.
Disposition of residence
In certain circumstances, it is possible for a personal trust to claim the principal residence exemption to reduce or eliminate a gain the trust would otherwise realize on the disposition of property. This exemption is provided for in paragraph 40(2)(b), and is granted in respect of a property that is a "principal residence" as defined in section 54 (the "Definition").
As stated in paragraph (a.1) of the Definition, the residence will be a principal residence of a personal trust for a taxation year provided, among other things, that the residence is ordinarily inhabited in the calendar year ending in the year by a specified beneficiary of the trust for the year, by the spouse or common-law partner or former spouse or common-law partner of such a beneficiary or by a child of such a beneficiary. In addition, the conditions set out in paragraph (c.1) of the Definition must be satisfied for the property to be a "principal residence" of the trust.
As stated in subparagraph (c.1)(ii) of the Definition, a specified beneficiary is an individual who, during the calendar year ending in the year :
- is beneficially interested in the trust (as defined in subsection 248(25)),
- in a situation such as the one you have described, ordinarily inhabited the housing unit or has a spouse or common-law partner, former spouse or common-law partner or child who ordinarily inhabited it.
Based on the information you have provided, Mr. X would appear to be a specified beneficiary of the trust who ordinarily inhabits the residence. Consequently, if the other conditions of paragraph (c.1) of the Definition were satisfied, the residence could be considered the principal residence of the personal trust. Paragraph 35 of Interpretation Bulletin IT-120R5, Principal Residence, and Form T1079, Designation of a Property as a Principal Residence by a Personal Trust, provide further details on the Definition and the conditions that must be satisfied. In this situation, we do not have enough information to determine whether the residence can be designated in all taxation years as the trust's principal residence.
If the beneficiary of the personal trust ordinarily inhabits the residence, we are of the view that the personal trust can designate the residence as its principal residence provided all the other conditions of the Definition are satisfied, even if it rents the residence to that beneficiary. Indeed, the Definition does not provide that a rented residence cannot constitute a principal residence.
For your information, unless exempted, a copy of this memorandum will be severed using the Access to Information Act criteria and placed in the Canada Customs and Revenue Agency's electronic library. A severed copy will also be distributed to the commercial tax publishers for inclusion in their databases. The severing process will remove all material that is not subject to disclosure, including information that could disclose the identity of the taxpayer. Should your client request a copy of this memorandum, the electronic library version can be provided. Alternatively, the client may request a severed copy using the Privacy Act criteria, which does not remove client identity. Requests for this latter version should be made by you to Ms. Jackie Page at (819) 994-2898. A copy will be sent to you for delivery to the client.
We hope you find these comments of assistance. Should you require additional information regarding the content of this document, please do not hesitate to contact us.
Ghislaine Landry, CGA
for the Director
Business and Partnership Division
Income Tax Rulings Directorate
Policy and Legislation Branch
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