Principal Issues: Whether subsection 104(18) can apply to a given situation of prolonged estate liquidation?
Position: Possibly. Question of fact.
Reasons: The question of whether a given will has the effect of prolonging the liquidation of the estate is a question of fact and law. In a situation where the liquidation of an estate is prolonged, subsection 104(18) could apply provided all its condition are met.
FINANCIAL STRATEGIES AND FINANCIAL INSTRUMENTS ROUNDTABLE, 7 OCTOBER 2021
2021 APFF CONFERENCE
Question 6
Extended Estate Administration and s. 104(18)
In Quebec, apart from the creation of a testamentary trust that meets the conditions of Article of the 1260 of the Civil Code of Quebec (C.C.Q.), two other means allow a testator to accord the administration of the bequeathed property to a third party for a specific period of time, namely the extension of the duties of the liquidator of the succession, hereinafter referred to as the “extended estate administration”, or the constitution of an autonomous extended administration plan (footnote 1). In many cases, despite the undeniable advantages of a testamentary trust, extended administration, via one of the two mechanisms mentioned above, is often encountered in practice, for various reasons (footnote 2).
In the context of this issue, we are inquiring as to the application of subsection 104(18) where an “extended estate administration” (footnote 3) is used to tax an heir under the age of 21 and the income earned on his share has not been paid to him and he is not entitled to demand payment.
Consider the following example:
Mr. X, a resident of Quebec, died leaving a last will and testament in which he made legacies of all of his property in equal shares, in full ownership, to his two minor children aged 10 and 15 respectively. If one of his children predeceases him, it is provided that the share of such child will increase in favour of the child’s co-legatee.
A clause extending the liquidation of the estate was included in the will and provides as follows: [TaxInterpretations translation]
“My liquidator shall keep in his hands for administration the share of those who may be benefited by my will and who, at the time of the opening of their right, would be less than 25 years old.
This extended administration is set up in order to ensure a better transmission of my patrimony and to favour a better management until the delivery of my legatees’ shares.
The effect of this extended administration will be to extend the liquidation of the estate beyond the date on which it should normally be terminated by law, until the final delivery of the legacies into the hands of the last legatee. This extended administration clause shall in no way be construed as creating a trust or substitution.
My liquidator shall have discretion to use the income generated on the share of each of my children for the purpose of providing for their maintenance, education, welfare and other needs. He may even encroach on the capital of their respective shares if it is necessary to achieve those same purposes.
My liquidator shall distribute to each of my legatees their respective shares at the age of 25 years.
My liquidator shall keep separate accounts for each of my legatees.
The administration will terminate, with respect to each of my children, at the time of the final delivery of the accumulated capital and income.
The death of any of my children will also terminate my executor’s administration with respect to them.”
The effect of this extended administration clause (footnote 4) is to extend the liquidation of the succession beyond the date on which it should normally end within the meaning of the Civil Code of Québec, until the final delivery of the property subject to the legacies into the hands of the last legatee. It is also understood that the death of one of his children after Mr. X’s death will put an end to the liquidator’s administration of that child’s share, so that the deceased child’s share will then become part of his own succession. In other words, this share would no longer be part of the original estate and would not increase in favour of the deceased child’s co-heir. Furthermore, this administration clause does not create a trust under the Civil Code of Quebec.
As stated in Technical Interpretation 2011-0422471E5 , (footnote 5) since this type of clause has the effect of extending the liquidator’s seisin, the estate will be required to file a Trust Income Tax and Information Return (T3 Return) to report its income for each taxation year until it ceases to exist.
For a maximum period of 36 months following the date of death, income that has not been paid or made payable to the heirs and that is therefore taxed in the estate may benefit from graduated rates provided that the estate meets all the conditions set out in the definition of “graduated rate estate” in subsection 248(1). However, once this 36-month period has elapsed, any income of the estate that has not been paid or made payable to the heirs must be taxed in the estate at the maximum tax rate.
Subsections 104(1) and 108(1) provide that a testamentary trust includes an estate. Under subsection 104(6), a trust may deduct from its income amounts that are payable to a beneficiary. The beneficiary must pay tax on those amounts pursuant to subsection 104(13). Subsection 104(24) defines an amount as “payable” to a beneficiary if it is actually paid or the beneficiary was entitled in the year to enforce payment of it. Subsection 104(18) is an exception to that rule. Indeed, if all the conditions listed in this subsection are satisfied, the income may be considered “payable”, even if the income has not actually been paid and the recipient is not entitled to enforce payment of it. Thus, in such a case, the income may be taxed at the level of a beneficiary who is under 21 years of age even though the income is in fact accumulating and being held in the trust.
Subsection 104(18) applies to a trust resident in Canada where the following conditions are satisfied:
1- The part of the amount has not become payable in the year (paragraph 104(18)(a));
2- The part of the amount was held in trust for an individual who did not attain 21 years of age before the end of the year (paragraph 104(18)(b));
3- The right to the part of the amount became vested in the individual at or before the end of the year otherwise than because of the exercise by any person of, or the failure of any person to exercise, any discretionary power (paragraph 104(18)(c));
4- Right to the part of the amount is not subject to any future condition, other than a condition that the individual survive to an age not exceeding 40 years (paragraph 104(18)(d)).
Given that the extended estate administration clause described above specifically sets out each child’s share of the estate, that each child has a vested right to the income earned on his or her share, that the will does not give the executor the discretion to determine each child’s share of the income or capital, but only allows the executor to determine the time of payment prior to the age of final distribution of the capital, the conditions of s. 104(18) would be satisfied. This would allow the income earned on their respective share of the estate to be taxed on the personal income tax return of each child under age 21, even though it would not be paid to them and they would not be entitled to claim it in the year.
Question to the CRA
Can the CRA confirm that all the conditions required for subsection 104(18) to apply are indeed satisfied in this situation?
CRA Response
The term "trust" is defined in subsection 248(1). It has the same meaning as in subsection 104(1) and, unless the context otherwise requires, includes an estate. As defined in subsection 248(1), subsection 104(1) provides that a reference in the Income Tax Act to a trust or estate is to be read to include a reference to the trustee, executor, administrator, liquidator, heir or other legal representative having ownership or control of the trust property (which includes an estate).
In the case of an estate, it is generally the CRA's view that provided there is an estate under the applicable private law, the estate is a trust for purposes of the Income Tax Act.
In the situation described, the characterization of the arrangement created under the extended administration clause in the will for purposes of the Income Tax Act is therefore dependent on its characterization under civil law. Thus, if for civil law purposes this arrangement effectively extends the administration of the estate, it will be considered a trust for purposes of the Income Tax Act. Such a determination is a question of fact and law that can only be determined by the CRA in the context of an audit, or an advance ruling request (submitted in accordance with IC 70-6R11 (footnote 6)) in respect of proposed transactions.
However, we are able to provide the following general comments, assuming that the extended administration clause included in the will in the situation described results in an extension of the executor's duties and authority beyond the "normal" end of the administration of the estate, until the legacies are transferred in accordance with the terms of the will. Under this assumption, a clause providing for an extension of the administration, and not an autonomous non-trust arrangement for administration, would have the effect of continuing the existence of the estate which, therefore, will still be considered a trust for purposes of the Income Tax Act.
Our comments are, however, subject to a review of the provisions of the will as a whole and the applicable law and may not be fully applicable in any particular situation.
Subsection 104(18) deems income of a trust resident in Canada to have become payable in a taxation year to a beneficiary who is under 21 years of age at the end of the year where all of the conditions set out in the subsection are satisfied, even though the income was not actually paid to the beneficiary in the year and the beneficiary was not entitled in the year to enforce its payment.
In order for subsection 104(18) to apply, the entitlement of the beneficiary who is under 21 years of age to the beneficiary’s share of the unpaid income must be vested otherwise than because of the exercise by any person of, or the failure of any person to exercise, any discretionary power, and the right to which must not subject to any future condition (other than a condition that the individual survive to an age not exceeding 40 years). In the case of an estate, the conditions of subsection 104(18) may be satisfied even if the will contains provisions giving the executor discretion as to the timing of the payment of income or capital to a beneficiary under 21 years of age, provided that the executor has no discretion as to the determination of the amount of income to which such a beneficiary is entitled.
In the situation described, it appears that the executor would have discretion as to the timing of the payment of income or capital to a beneficiary under the age of 21, or to a third party for the benefit of such a beneficiary, but would have no discretion as to the determination of the amount of income to which such beneficiary is entitled.
Consequently, subject to a consideration of the provisions of the will as a whole and the applicable law, it is possible that the conditions of subsection 104(18) could be satisfied in respect of the child or children of the deceased who are beneficiaries of the estate and who have not attained 21 years of age at the end of a particular taxation year. The application of subsection 104(18) would, for any taxation year to which that subsection applies, cause the portion of the amount that would, but for subsections 104(6) and 104(12), be income of the estate for the year to be deemed for the purposes of subsections 104(6) and 104(13) to have become payable in the year to the relevant beneficiary or beneficiaries to whom the entitlement to that portion would have accrued.
Chantale Bouchard et Isabelle Brulotte
October 7, 2021
2021-089606
FOOTNOTES
Due to our system requirements, footnotes contained in the original document are reproduced below:
1 Jacques Beaulne, "Étude de quatre 'ions' incertains en droit des successions : donation, représentation, contribution et administration", (TaxInterpretations translation: “Study of four uncertain 'ions' in inheritance law: donation, representation, contribution and administration”) 2010 (1) C.P. du N., 27-61.
2 "L'administration post mortem : qu'en est-il ?", (Winter 2021), vol. 25, no. 4, Stratège, 12-15.
3 With respect to the autonomous extended administration plan, once the estate is settled, the legatee must include in the calculation of the legatee’s income any income from the property, even if the legatee does not have access to the amounts owned by the legatee because of the restrictions stated in the administration plan: CANADA REVENUE AGENCY, Technical Interpretation 2014-0537691E5, 1 April 2016.
4 A judgment of the Quebec Court of Appeal has recognized the validity of this type of administration, see Estate of Lorrain v. Lorrain, 2008 QCCA 1914, para. 22.
5 CANADA REVENUE AGENCY, technical interpretation 2011-0422471E5, March 26, 2012.
6 CANADA REVENUE AGENCY, Information Circular IC 70-6R11, "Advance Income Tax Rulings and Technical Interpretations", April 1, 2021.