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ChApter 19

Trusts And Estate Planning. ChApter 19. What is a Trust?. Property. Benefits. Settlor. Trustee. Beneficiaries. Legal Ownership. Legal Vs. Tax. A trust is not a separate legal entity. Income Tax Act views a trust as a separate taxable entity. Trust Vs. Estate.

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ChApter 19

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  1. Trusts And Estate Planning ChApter 19

  2. What is a Trust? Property Benefits Settlor Trustee Beneficiaries Legal Ownership

  3. Legal Vs. Tax • A trust is not a separate legal entity • Income Tax Act views a trust as a separate taxable entity

  4. Trust Vs. Estate • In general, the term “estate” refers to the property and possessions of an individual

  5. Trust Vs. Estate • ITA 104(1) In this Act, a reference to a trust or estate (in this subdivision referred to as a “trust”) shall, ... • ITA views “estate” as the property of a deceased individual prior to its distribution • ITA requires a “trust” return for the income of an individual’s estate

  6. Establishing a Trust • Requires three certainties • Certainty of intention • Certainty of property • Certainty of beneficiaries

  7. Establishing a Trust Who Cares? If a trust is not clearly established, there may be unexpected tax consequences (e.g., income taxed in hands of settlor rather than beneficiaries).

  8. Non-Tax Uses Of Trusts • Administration of assets • Creditor proofing • Privacy (wills require probate, trusts do not) • Avoiding changes in beneficiaries

  9. Classification of Personal Trusts

  10. Taxation of Trusts Property At FMV Property At Trust’s Cost Trust Property Settlor Capital Beneficiaries Trust Income Retained Income (taxed in trust) Distributed Income (beneficiaries taxed) Income Beneficiaries

  11. Rollovers to a Trust • In general: Contributions are a disposition by the settlor at fair market value • Exceptions • Spouse or common-law partner trust • Alter ego trust • Joint spouse or common-law partner trust

  12. Rollovers to a Trust- Spouse or Common-Law Partner Inter Vivos ITA 73(1.01)(c)(i) The individual's spouse or common-law partner is entitled to receive all of the income of the trust that arises before the spouse's or common-law partner's death and no person except the spouse or common-law partner may, before the spouse's or common-law partner's death, receive or otherwise obtain the use of any of the income or capital of the trust.

  13. Spouse or Common-Law Partner Testamentary ITA 70(6)(b) A trust, created by the taxpayer's will, that was resident in Canada immediately after the time the property vested indefeasibly in the trust and under which (i) the taxpayer's spouse or common-law partner is entitled to receive all of the income of the trust that arises before the spouse's or common-law partner's death, and (ii) no person except the spouse or common-law partner may, before the spouse's or common-law partner's death, receive or otherwise obtain the use of any of the income or capital of the trust.

  14. Alter Ego Only Inter Vivos ITA 73(1.01)(c)(ii) The individual is entitled to receive all of the income of the trust that arises before the individual's death and no person except the individual may, before the individual's death, receive or otherwise obtain the use of any of the income or capital of the trust.

  15. Joint Spousal or Common-Law Partner • ITA 73(1.01)(c)(iii) either • the individual or the individual's spouse is, in combination with the other, entitled to receive all of the income of the trust that arises before the later of the death of the individual and the death of the spouse and no other person may, before the later of those deaths, receive or otherwise obtain the use of any of the income or capital of the trust, or • the individual or the individual's common-law partner is, in combination with the other, entitled to receive all of the income of the trust that arises before the later of the death of the individual and the death of the common-law partner and no other person may, before the later of those deaths, receive or otherwise obtain the use of any of the income or capital of the trust.

  16. Rollovers to a Capital Beneficiary • General Rule: Transfer at trust’s tax cost • Exceptions for transfers out of: • Spouse or common-law partner trust • Alter ego trust • Joint spouse or common-law partner trust

  17. 21 Year Deemed Disposition • Deemed disposition/acquisition every 21 years • Limits the deferral of capital gains within the trust

  18. Net Income of a Trust • In general: Follows the ITA 3 rules as applied to an individual • Additional adjustments required

  19. Net Income Adjustments • Deductions available for: • Amounts paid or payable to beneficiaries • Trustee’s or executor’s fees • Amounts paid by the trust on behalf of beneficiaries

  20. Net Income Adjustments • Preferred Beneficiary Election • Income retained in trust, taxed in hands of beneficiary • Only applicable to beneficiaries • Who are eligible for the disability tax credit; or • Can be claimed as an infirm dependant over 17

  21. Net Income Adjustments • Amounts deemed not to be paid • A distribution that is taxed in the trust rather than in the hands of the recipient beneficiary • Reasons for using • Lower rates • Avoidance of instalments • Use of trust losses

  22. Net Income Adjustments • Amounts retained for a beneficiary under 21 years of age • Retained in the trust but taxed in the hands of the beneficiary • Beneficiary must be under 21 during the year • Amounts must vest irrevocably with the beneficiary.

  23. Taxable Income of a Trust Same deductions as those available to individuals Net Income of the trust Taxable Income of the trust

  24. Income Allocations to Beneficiaries • To be deductible, amounts must be paid or payable • Not considered payable if: • A beneficiary can only enforce payment of an amount of income by forcing the trustee to wind up the trust. • The beneficiary’s right to income is subject to the approval of a third party. • Payment of income is at the trustee’s discretion. • The beneficiary has the power to amend the trust deed and must do so to cause the income to be payable.

  25. Determination of Distributions • Discretionary • Amounts at the discretion of trustee • Timing at the discretion of trustee • Non-Discretionary • Amounts and their timing specified in trust agreement

  26. Flow Through Provisions • Dividends distributed • Beneficiary will gross up • Beneficiary will get credit • Retained in trust • Trust will gross up • Trust will get credit • Will retain eligible/non-eligible status

  27. Flow Through Provisions • Capital Gains • If distributed • One-half taxed • One-half tax free • If retained • One-half taxed • One-half becomes part of trust’s capital

  28. Flow Through Provisions • Tax on split income • Applicable to those under 18 • A tax on specified types of income (see Chapter 11) • If specified income earned in the trust: • It will be subject to this tax if beneficiary is under 18

  29. Flow Through Provisions • Business Income • Must be calculated at trust level • Will include CCA, recapture, and terminal losses

  30. Flow Through Provisions • Principal Residence Exemption • Owned by trust • Ordinarily inhabited by beneficiary • Exemption available

  31. Trust Tax PayableTestamentary Trusts • Taxed using the progressive rates applicable to individuals • Multiple testamentary trusts • If same beneficiaries may be taxed as one trust • Tainting • May lose testamentary status if contributions by living person

  32. Trust Tax PayableInter Vivos Trusts • Undistributed income taxed at maximum rate of 29 percent

  33. Tax Credits • Many not available (e.g., medical expenses) • Available • Donation tax credits • Dividend tax credits (eligible and non-eligible) • Foreign tax credits • Investment tax credits

  34. Alternative Minimum Tax • Applicable To Trusts • The $40,000 exemption is only available to testamentary trusts

  35. Income Attribution • Applicable to spouses, common-law partners and related minors • Applicable to transfers to a trust where the beneficiary is a spouse, common-law partner, or related minor • Occurs when income is allocated to such individuals

  36. Reversionary Trusts • Attribution to settlor: • If the transferred property can revert to settlor • If the settlor can determine the persons that will receive the transferred property • The transferred property cannot be disposed of except with transferor’s consent

  37. Purchase or Sale of an Interest in a Trust • Income Interest • Cost usually nil • Gain will be property income • Capital Interest • May have a cost • Gain or loss will be capital

  38. Tax PlanningFamily Trust • Trust established for family members • Can be used to enforce behaviour (e.g., showing up for family dinners) • Can be used for income splitting

  39. Tax PlanningSpousal Trusts • Can provide for management of assets • Can ensure appropriate distribution of assets subsequent to death of spouse (settlor’s children in the event of spouse re-marriage)

  40. Tax PlanningAlter Ego and Joint Spousal • Avoidance of Probate Fees • Costly • Time consuming • Multiple jurisdictions • Probate in public domain • Establishment in low tax jurisdiction (e.g., Alberta)

  41. Estate Planning • Non-Tax Considerations • Intent of testator • Preparation of final will • Preparation of living will • Ensuring liquidity • Avoiding family disputes • Expediting the transition

  42. Estate Planning • Tax considerations • Pre-death planning • Planning in the year of death • Income splitting • Foreign jurisdictions • Administration

  43. Estate Freeze • Objectives • Transfer income to low tax beneficiaries • Freeze value of assets • Avoid immediate taxation • Transfer future growth • Retain control of assets • Not always possible to achieve all of these goals

  44. Estate Freeze Techniques • Gifts • Transfers growth and income • Generates current income unless transferee is a spouse or common-law partner • Attribution rules could apply • Tax on split income could apply • Transferor loses control over assets

  45. Estate Freeze Techniques • Instalment sales • Could use capital gains reserves • Would require payment at FMV to avoid attribution • Loss of control

  46. Estate Freeze Techniques • Establishing an inter vivos trust • Transfers income and future growth • Will attract immediate taxation unless it is a spousal trust • Can result in income attribution and tax on split income

  47. Estate Freeze Techniques • Holding company • Can accomplish most objectives • Without rollover, will result in immediate taxation on transfer

  48. Estate Freeze Techniques • Rollover under ITA 85 or ITA 86 • Can accomplish all objectives • ITA 86 requires an existing corporation • ITA 86 is simpler in that it does not require an election

  49. Specified Investment Flow Through Entities (SIFTs) • SIFT Partnership • Canadian resident • Securities publicly traded • Holds non-portfolio properties • SIFT Trust • Canadian resident • Securities publicly traded • Holds non-portfolio properties

  50. Specified Investment Flow Through Entities (SIFTs) • The problem • High tax rates on publicly traded corporations • Integration doesn’t work • Makes flow through income attractive • Non-residents and tax exempt entities • Non-residents pay low rates • Tax exempts pay no tax • Makes flow through income attractive

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