Mr. X effects an estate freeze in favour of a family trust (entailing a s. 51 exchange by him of his shares of Holdco, which is not a small business corporation (SBC), for preferred shares under s. 51(1), and the family trust subscribing a nominal amount for common shares). The s. 74.4(4) exception is unavailable. Mr. X’s spouse and children do not participate in the business of Holdco and none of the split-income exceptions applies to the income received by the beneficiaries from the trust.
Given the application of s. 120.4(2), does s. 74.4(2) not apply in this situation since the main purpose test (the “Purpose Test”) is not satisfied?
CRA responded:
[T]he part of the Purpose Test related to the designated person only turns on the question of whether it is reasonable to consider that one of the main purposes of the transfer made by the individual was to benefit, either directly or indirectly, the designated person, regardless of the tax treatment to the designated person of any income that is part of the benefit the individual was seeking to confer.
Furthermore, where the designated person is a specified individual, as defined in subsection 120.4(1), paragraph 74.4(2)(g) only mitigates the impact, resulting from the application of subsection 74.4(2), on the transferring individual by reducing the amount that the transferring individual is deemed to have received as interest. That reduction is the amount to be included in computing the designated person's income for the year as a taxable dividend that the designated person received, if it is reasonable to consider that it is part of the benefit that the taxpayer sought to confer and is included in computing the designated person’s split income for any taxation year.