Principal Issues: [TaxInterpretations translation] Would the presence, in a trust indenture governed by the Civil Code of Québec, of a clause conferring on the settlor and beneficiary of the trust an option to elect, among a class of persons, the beneficiaries of the trust upon his death, compromise the application of section 73 on the transfer of property by the settlor to the trust?
Position: Yes
Reasons: The transfer would result in an effective change of ownership.
Federal Tax Roundtable, 5 October 2012
2012 APFF Conference
Question 2
Section 73 Second class beneficiaries
Section 73 permits a rollover on the transfer of capital property of an individual to a trust meeting certain criteria, including the following:
[T]he transfer does not result in a change in beneficial ownership of the property and there is immediately after the transfer no absolute or contingent right of a person (other than the individual) or partnership as a beneficiary (determined with reference to subsection 104(1.1)) under the trust; …(section 73(1.02)(b)(ii))
In this regard, the common law authorizes the designation as second-order beneficiaries of a trust "the heirs to the settlor's will". If we assume that that trust is valid, that designation will result in the property of the trust being excluded from the settlor's estate and therefore continue to benefit from the asset protection associated with the use of the trust. In addition, we understand that this designation of second-order beneficiaries does not disqualify the trust from accessing the rollover provided for in section 73, this being the objective contemplated by subsection 104(1.1).
Furthermore, in Quebec civil law, it is not possible to designate as "second-order beneficiaries" the "heirs of the will of the settlor" without adding the class within which this appointment must be made (para 1282(2) of the Civil Code of Québec ("CCQ")). Indeed, such a designation constitutes an unlimited power to appoint. In addition, if no second-order beneficiary is designated, the property of the trust will return to the estate of the settlor pursuant to article 1297 CCQ and will therefore be part of the estate of the deceased. Those assets will therefore lose the benefit of asset protection related to the use of the trust (unlike the same situation under the common law).
Question to the CRA
Could the use of the clause below in a trust deed, which meets the requirements of the CCQ for a power of appointment, jeopardize the rollover provided for in section 73 on a transfer to the trust:
"1.1 The trustees shall administer the property forming part of the trust patrimony for the exclusive benefit of the settlor for his lifetime, the settlor being the sole beneficiary of the present trust until his death.
1.2 The settlor may designate the persons who will become beneficiaries of the trust upon death and their share in the income and/or capital of the trust. This designation will be valid only if it is made by will and the person or persons so designated by the settlor are persons related to the settlor within the meaning of section 251 of the Income Tax Act or are nephews or nieces of the settlor. The designation will not be effective until the death of the settlor. Upon the death of the settlor, the trustees shall administer the property forming part of the trust patrimony for the benefit of the persons so designated. "
CRA response
This question is based on a number of statements concerning the applicable private law, both under the common law and under civil law, with respect to asset-protection trusts. We understand that certain aspects of the private law applicable to this type of trust are the subject of debate that the courts have not had the opportunity to pass on. An analysis of private law goes beyond the scope of this document. The following comments are therefore made on the assumption that the preamble to this question constitutes a fair statement of the applicable private law, which appears to us as uncertain in some respects.
The concept of beneficial ownership is foreign to Quebec civil law and its application continues to be the subject of numerous studies by the Canadian legal community, particularly in the framework of the program to harmonize federal legislation with the civil law of Quebec. However, the CRA has previously indicated that, in light of paragraph 248(3)(e) and subsection 248(25), it is reasonable to consider that the transfer of property to a trust governed by the CCQ of which the settlor is the sole beneficiary does not result in an effective change of ownership for the purposes of subsection 73(1.02).
While the determination of a beneficiary of a particular trust is a question of fact that requires consideration of the terms of the trust indenture, we consider that a person who belongs to a class of persons from which the beneficiaries of a trust may be chosen to have a beneficial interest by virtue of subsection 248(25).
We are therefore of the view that the use of the suggested clause in a trust indenture would result in persons other than the settlor being granted a beneficial interest by virtue of subsection 248(25) and, consequently, beneficial ownership within the meaning of paragraph 248(3)(e). The settlor is no longer, after the transfer, the one and only person beneficially interested within the meaning of subsection 248(25) and, consequently, having beneficial ownership within the meaning of paragraph 248(3)(e); we are of the view that there would be an effective change of ownership for the purposes of subsection 73(1.02).
That result appears to be consistent with the purpose of harmonization underlying paragraph 248(3)(e), since we are of the view that the presence of a similar clause in a trust indenture that would be governed by the common law would result in an effective change of ownership at the time of the transfer of property by the settlor to the trust.
Mélanie Beaulieu
(613) 957-9226
2012-045391