May 1, 1990
FROM - HEAD OFFICE Financial Industries Division D.S. Delorey 957-3495
TO - VANCOUVER D.O. P.E. Seguin Director
Attention: J.C. Fitz-Clarke
Audit Review
Section 148-3SUBJECT: Funds Held by a Law Firm
This is in reply to your memorandum of April 11, 1990.
Your particular concern relates to the following question raised by a "local study group" with whom you intend to meet in mid-May:
"In many real estate transactions, a law firm may be required to hold monies in trust on behalf of either the purchaser or vendor of the real estate. For example, the vendor's solicitors may be holding the deposit of the purchaser in its trust account. If the real estate transaction does not proceed or if the purchaser is in default, the deposit and any interest earned thereon is often forfeited to the vendor as liquidated damages. On the other hand, if the real estate transaction does proceed and the transaction closes, the deposit and any interest earned thereon is for the benefit of the purchaser and is credited to the purchase price of the property. If these monies are held for a considerable period of time (e.g., two years), has a trust been created such that the law firm is acting as a trustee and must therefore file a T3 return in respect of any interest that has accrued on the deposit but has yet to be paid or become payable to either the purchaser or vendor? What happens if the vendor or purchaser is a non-resident at all times? Does the law firm have an obligation to withhold and to remit in respect of any interest earned on the deposit and if so, at what time does this obligation arise?"
OUR COMMENTS
The relationship between the involved parties can be determined only upon a review of all relevant documentation. Where the relationship is one of agent/principal, the interest will be included in the income of the person for whom the solicitor is acting as agent, a question of fact. If that person is a non-resident, Part XIII tax should be withheld at the time the interest is paid to the agent/solicitor. If the interest is paid to the agent without an amount being withheld, subsection 215(3) of the Act provides that the agent shall forthwith remit the applicable Part XIII tax.
Where the relationship is one of trust/beneficiary and no litigation is involved, the interest will be included in the income of the purchaser by virtue of paragraph 75(2)(a) of the Act where the purchaser is resident in Canada. No trust return is required as the interest is deemed under subsection 75(2) to be income of the purchaser rather than the trust. However, where the purchaser is a non-resident, subsection 75(2) does not apply. Rather, the provisions of section 104 apply and the solicitor/trustee should file a T3 trust return. The solicitor/trustee should withhold the applicable Part XIII tax on the earlier of the days mentioned in paragraph 214(3)(f) of the Act and, pursuant to subsection 215(1) of the Act, forthwith remit that amount to the Receiver General.
Where, on a certain date, the ownership of the interest becomes a matter to be resolved through litigation, the Department's practice is set out in paragraph 10 of IT-120R . For interest earned to that date, the comments in the above paragraph of this memorandum apply. For interest earned after that date, the comments in paragraph 10 of IT-120R apply and, where one of the litigants is a non-resident and it is the non-resident who eventually becomes entitled to the interest, the above comments concerning paragraph 214(3)(f) and subsection 215(1) apply. For the purposes of paragraph 214(3)(f), the "taxation year" will be the taxation year in which the non-resident becomes the successful litigant.
W. Douglas for Director Financial Industries Division Rulings Directorate