G. Kauppinen Tel: (613) 957-3495
May 20, 1987
Dear Sirs:
This is in regard to your letter dated January 29, 1987 which was further to ours of October 15 and 30, 1986 and yours of July 23, 1986 concerning preferred beneficiary elections.
You have specifically questioned our comment on page 2 of our letter dated October 30, 1986 that contingent beneficiaries cannot make a preferred beneficiary election. We agree, with apology, that this sentence is not technically correct. However, this has caused no practical consequences with respect to either the opinions outlined in our letter dated October 15, 1986 (as amended by our letter dated October 30, 1986) or with respect to the rulings we rendered on the XXX issued October 27, 1986 (our reference 3-0619).
In our opinion, where paragraph 104(15)(c) of the Income Tax Act ("Act") is applicable to a particular preferred beneficiary for a given taxation year, that preferred beneficiary is an income beneficiary. A capital preferred beneficiary will be entitled to share in the accumulating income of the trust for a taxation year where there is a taxable capital gain realized by the trust, that gain is capital for trust purposes and the capital beneficiary's right to,this capital of the trust has vested as of the end of the particular taxation year of the trust. In other words, for that year, the capital beneficiary is also an income beneficiary. This right could be subject to divestment, for instance, if the capital beneficiary fails to reach a certain age but this is irrelevant for a particular taxation year at the end of which he is still alive. The same result occurs if the terms of the trust provide for discretionary encroachments on capital in favour of the particular beneficiary and the trust realizes a taxable capital gain in a particular taxation year.
However, a contingent preferred capital beneficiary whose rights to capital are contingent on the death of another capital beneficiary would fall within the provisions of paragraph 104(15)(d) of the Act where the letter beneficiary is alive at the end of the year. Consequently, for that particular taxation year, that contingent beneficiary's share of accumulating income in nil. We would not consider his share of accumulating income to be dependent upon the exercise or non-exercise of a discretionary power at that time but rather to be contingent on the happening of a future event. Therefore, while this capital beneficiary can elect pursuant to subsection 104(14) of the Act for that year because he is a preferred beneficiary, the maximum amount be can elect upon is nil. As a practical matter such an election would have no income tax consequence. However, if the trustees can currently encroach on capital for this particular contingent beneficiary he would also fall within the provisions of paragraph 104(15)(c) of the Act in a taxation year in which a capital gain is realized by the trust.
Our position with respect to the interpretation of paragraph 2800(3)(f) of the Income Tax Regulations ("Regulations") is unchanged. The words "may be entitled to share" clearly include contingent beneficiaries whose current share of accumulating income of a discretionary trust is nil for a given taxation year of the trust pursuant to 104(13)(d) of the Act but who may share on the death of another preferred beneficiary. This position, we believe, is supported by the fact that the exclusion in subsection 2800(4) of the Regulations does not apply for the purpose of the calculation in paragraph 2800(3)(f) of the Regulations.
We trust the foregoing clarifies our position. Yours truly,
for Director Financial Industries Division Rulings Directorates Legislative and Intergovernmental Affairs Branch
GK/md