Principal Issues: Can a transfer of property from a personal trust to a beneficiary be both a settlement of debt and a rollover pursuant to subsection 107(2)?
Position: No.
Reasons: It cannot be both simultaneously.
STEP CRA Roundtable June 2014
QUESTION 8. Transfer of property by a personal trust to a beneficiary
A Canadian-resident trust that meets the definition of a "personal trust" in subsection 248(1) of the Act holds property that has appreciated in value since its acquisition by the trust. The trust is to be wound up and the trustee wishes to transfer the property to a capital beneficiary. The trust has an outstanding amount that it owes to the capital beneficiary in respect of a loan that was previously extended to the trust. Can the transfer of property by the trust to the capital beneficiary settle the debt owing to the beneficiary and also constitute a rollover pursuant to subsection 107(2) of the Act?
CRA Response
For purposes of this response, it is assumed that:
1. the trust would not elect pursuant to subsection 107(2.001);
2. the trust is not subject to paragraph 104(4)(a);
3. subsection 107(4.1) is not applicable; and
4. the capital beneficiary is resident in Canada.
In general terms, subsection 107(2) of the Act applies to a distribution of property by a personal trust to a beneficiary in satisfaction of their capital interest in the trust. The term "capital interest" is defined in subsection 108(1) of the Act. The definition refers to the "rights of the taxpayer as a beneficiary under the trust".
The discussion by Justice Bonner of the Tax Court of what constitutes a "distribution" for purposes of subsection 107(2), in paragraph 13 of his decision in the case of Chan v The Queen (99 DTC 1215), is notable:
"The word "distribute" in the context of subsection 107(2) refers to an allotment of trust property to a beneficiary in accordance with his proportionate share. Such a distribution, being an action taken by the trustee in response to fiduciary duty, is one for which consideration cannot be exacted except in accordance with a provision in the trust deed."
Under the law of equity, fiduciary duties are imposed on a trustee and are enforceable by the beneficiaries of a trust. In our view, the settlement of the debt owing by the trust to the beneficiary would not constitute a distribution undertaken by the trustee under a fiduciary duty to a beneficiary qua beneficiary, but rather, the fulfilment of requirements imposed on a debtor.
It cannot be said that a transfer that settles a debt can also constitute a distribution for purposes of subsection 107(2) of the Act. In order for both a distribution for purposes of subsection 107(2) and a settlement of debt to occur, it is our view that two transfers of property must occur. The settlement of the debt by the transfer of property to the creditor does not occur by virtue of rights of the holder of the interest as a beneficiary under the trust. It occurs by virtue of the rights held as a creditor.
Phil Kohnen
2014-052655