Mr. X owns 100,000 voting preference shares of a corporation (“Investco”), whose non-voting common shares had been acquired on an estate freeze by a discretionary inter vivos trust (the “Family Trust”), whose beneficiaries (all over 18) included him, Ms. X and their children (Ms. Y and Ms.), and whose terms complied with s. 74.4(2). Mr. X annually worked full-time in Investco’s business.
On his death in Year 1, one preference share was bequeathed to each of Ms. Y and Ms. Z, and 99,998 preference shares to Ms. X. In Year 2, a dividend received on the Investco common shares is distributed by the Family Trust to Ms. Z.
(a) Would such taxable dividend received by Ms. Z be considered to be derived directly or indirectly from an “excluded business” of Ms. Z having regard to s. 120.4(1.1)(b)(ii)?
(b) What if Mr. X instead bequeaths his preference shares to Ms. X and, as dictated under the terms of the Family Trust, on the death of Mr. X, the Investco common shares are distributed equally to Mr. X’s children – so that the Year 2 dividend is received directly by Ms. Z on the Investco common shares?
(a) CRA indicated that because the dividend is in respect of the common shares of Investco, the s. 120.4(1.1)(b)(ii) deeming rule would not apply, because those shares were owned by the family trust and were not acquired by, or for the benefit of, Ms. Z as a consequence of the death of Mr. X. Accordingly, the excluded business exception would not apply in respect of Ms. Z.
(b) Here, the dividend is received by Ms. Z on the Investco common shares acquired by her on the winding up of the inter vivos trust. CRA has considered that property received from an inter vivos trust, the terms of which unconditionally require that it distribute the property to the individual on the death of another person, can be considered as property acquired as a consequence of that person’s death. Accordingly, Ms. Z’s Investco common shares will be considered as property that was acquired her as a consequence of the death of another person, so that s. 120.4(1.1)(b)(ii) will deem Ms. Z to have been actively engaged in Investco’s business based on Mr. X’s previous involvement in the business. As a result, Investco’s business will be an excluded business of Ms. Z.
Regarding GAAR, CRA would look for a sufficient connection between the deceased person and the property that is being distributed and the specified individual to support the application of the deeming rule in these circumstances.