Dear Sirs:
Re: Inter Vivos Trusts and the 21-Year Rule Under Subsection 104(4) of the Income Tax Act
This is ln reply to your letter dated June 27, 1991 to the Regina District Office concerning the above subject matter. We apologize for the delay in responding.
Your comments refer to inter vivos trusts established by parents as donors or settlors for the benefit of disabled children and irresponsible children and adults as the primary beneficiaries. The trusts would provide that capital property lasting in their original form beyond the life of the primary beneficiaries be passed on to grand-children and other secondary beneficiaries. It is your view that such a trust would likely not be exempt from the 21-year rule under subsection 104(4) of the Income Tax Act (the "Act") as proposed in the draft legislation released by theDepartment of Finance on February 11, 1991.
Our understanding of your concern, based on our telephone conversation, is with regard to the meaning of "exempt beneficiary" as the term is used in the draft legislation for the purpose of deferring the 21-year rule in circumstances where:
a) the settlor provides that under the trust his or her disabled child receives a life interest in the trust income and on the child's death the trust capital would pass to other children, and
b) the settlor provides that his or her irresponsible child receives the income from the trust for life and on the child's death the settlor's grandchildren will receive the trust capital.
Under the proposed legislation described above new subsection 104(5.3) would provide that an election to defer the 21-year rule can only be made by a trust if there is an "exempt beneficiary" who is beneficially interested in the trust at the end of the year in which the 21-year period ends.
An exempt beneficiary would, by the proposed definition under new subsection 104(5.4), generally include a living child of the settlor provided the settlor is the "designated individual" who transferred (or loaned) property to the trust from which more than half of the trust property was derived, and the child was a "beneficiary" as defined under proposed subsection 104(5.6). Under the subsection 104(5.4) definition, a grandchild of the settlor would not be an exempt beneficiary.
Pursuant to subsection 74.5(10), an individual who has a right under a trust that is subject to the exercise of the discretionary power of any person is considered to be "beneficially interested" under a trust and, therefore, a "beneficiary" under proposed subsection 104(5.6). However, paragraph 104(5.6)(a) specifically excludes certain discretionary powers in determining whether an individual may be a "beneficiary" under a trust. A beneficiary who is so excluded would, in turn, not be an exempt beneficiary for the purpose of deferring the 21-year rule.
Under paragraph 104(5.6)(a) where an individual's right under a trust may be terminated upon the discretion of any person without the individual enjoying any benefit under the trust, such an individual would not qualify as a beneficiary or exempt beneficiary for the purpose of deferring the 21-year rule. Accordingly, if the rights of an only beneficiary or of all beneficiaries under the trust are subject to such discretionary powers at the end of a 21-year period, the trust would not be exempt from the 21-year rule. Whether or not any person would have any discretion under a trust that could terminate the rights of a beneficiary under the trust is a question of fact to be determined on the interpretation of the wording of the particular trust document. We do not have sufficient information to make such a determination. However, if no such discretionary authority exists so that a child is an exempt beneficiary under a trust at the end of the year for which the rule would otherwise apply and the trust meets the "designated individual" requirements described above, it is our view that the trust could elect to defer the 21-year rule provided that the draft legislation is passed into law as proposed.
With regard to your question concerning whether a testamentary trust could include an inter vivos trust, we would comment that a testamentary trust is an estate or trust that arises upon the death of a taxpayer and as a consequence of his death. Accordingly, any trust that arises prior to the death of the settlor would not be a "testamentary trust" pursuant to the definition of the term under paragraph 108(1)(f) of the Act.
This is an expression of our opinion only and is not to be onstrued as an advance ruling binding on the Department.
We hope this will be of assistance to you.
Yours truly,
for DirectorManufacturing Industries, Partnerships and Trusts DivisionRulings DirectorateLegislative and Intergovernmental Affairs Branch
cc: R. Hauff Business Enquiries Section Regina District Office.