C a n a d a C u s t o m s a n d R e v e n u e A g e n c y A g e n c e d e s d o u a n e s e t d u r e v e n u d u C a n a d a Interpretation Bulletin IT 305R4 Testamentary Spouse Trusts More Ways to Serve You! October 30, 1996 www.cra.gc.ca
R E F E R E N C E: Subsections 70(6), (6.1), (7) and (8) (also subsections 12(10.2), 70(5), (5.4) and (6.2), 108(3) and (4), 248(3), (8), (9), (9.1) and (9.2) and 252(3) and (4) and paragraph 5 of Article XXIXB of the C A N A D A-UNITED STATES INCOME T AX C O N V E N T I O N (1980)) Interpretation bulletins (ITs) provide Revenue Canada's technical interpretations of income tax law. Due to their technical nature, ITs are used primarily by departmental staff, tax specialists, and other individuals who have an interest in tax matt ers. For those readers who prefer a less technical explanation of the law, the Department offers other publications, such as tax guides and pamphlets. While the ITs do not have the force of law, they can generally be relied upon as reflecting the Departmen t's interpretation of the law to be applied on a consistent basis by departmental staff. In cases where an IT has not yet been revised to reflect legislative changes, readers should refer to the amended legislation and its effective date. Similarly, court decisions subsequent to the date of the IT should be considered when determining the relevancy of the comments in the IT. 1
An interpretation described in an IT applies as of the date the IT is published, unless otherwise specified. When there is a change in a previous interpretation and the change is beneficial to taxpayers, it is usually effective for all future assessments and reassessments. If the change is not favourable to taxpayers, it will normally be effective for the current and subsequent taxation years or for transactions entered into after the date of the IT. A change in a departmental interpretation may also be announced in the INCOME TAX T E C H N I C A L NEWS. If you have any comments regarding matters discussed in this IT, please send them to: Director, Business and Publications Division Income Tax Rulings Directorate Policy and Legislation Branch Revenue Canada Ottawa ON K1A 0L5 Interpretation bulletins can be found on the Revenue Canada Internet site at: www.cra.gc.ca 2
Application Contents Summary Discussion and Interpretation General ( s 1 4) Establishment of Testamentary Spouse Trust ( s 5 8) Transfer or Distribut ion as a Consequence of Death and Trust Created by Will ( s 9 12) Requirements regarding the Income and Capital of a Spouse Trust ( s 13 16) "Tainted" Spouse Trust ( s 17 29) Transfer or Distribution of Net Income Stabilisation Account (NISA) to Spouse Trust ( s 30 32) Canada-United States Income Tax Convention (1980) ( 33) Explanation of Changes 3
Application This bulletin replaces and cancels Interpretation Bulletin IT -305R3, E S T A B L I S H M E N T O F TESTAMENTARY SPOUSE TRUST, dated June 29, 1987. It also incorporates relevant comments from Interpretation Bulletin IT-207R, "TA I N T E D" SPOUSE TRUSTS, dated March 26, 1979 and cancels that bulletin. Summary The purpose of subsection 70(6) is to allow a deferral of the tax consequences that would otherwise arise from the deemed dispositions of capital property occurring as a result of a taxpayer's death, if the property is transferred or distributed to the taxpayer's spouse or to a testamentary trust established in favour of the spouse and the other requirements of that provision are met. This bulletin discusses the conditions which must be met for a trust to qualify as a spouse trust des cribed in subsection 70(6) and the situations under which such a trust becomes "tainted." It also discusses the tax implications of a tainted spouse trust and how, 4
if at all, a tainted spouse trust can be "untainted." Finally, the bulletin discusses a similar deferral, under subsection 70(6.1), of what would otherwise be the tax consequences of the deemed payments out of a NISA Fund No. 2 occurring as a result of death. General Discussion and Interpretation 1. Taxable capital gains, allowable capital los ses, recaptures of capital cost allowance and terminal losses which would otherwise arise as a result of a taxpayer's death, by virtue of the deemed disposition of capital property under subsection 70(5), are generally deferred if, as a consequence of the taxpayer's death (see s 9 to 12 below), the property is transferred or distributed to the taxpayer's spouse or to a trust established in favour of the taxpayer's spouse as described in subsection 70(6) (a "spouse trust"). 2. When subsection 70(6) applies, the spouse or spouse trust which acquires a capital property as a consequence of the taxpayer's death generally assumes the taxpayer's tax cost of the property. This amount is also the deceased's proceeds of disposition of the property. 5
The deceased tax payer's legal representative may, however, elect under subsection 70(6.2) to have subsection 70(5), rather than subsection 70(6), apply to any capital property of the taxpayer. In these circumstances, the proceeds of disposition of the property to the deceased and its cost to the spouse or spouse trust are each equal to the fair market value of the property immediately before death. An election made under subsection 70(6.2) must be made in the deceased's regular income tax return for the year of death. 3. When a partnership interest of a deceased taxpayer is transferred or distributed to the taxpayer's spouse or to a spouse trust, as described in subsection 70(6), and the taxpayer's adjusted cost base of the interest was negative immediately before death, subsection 70(6) may not result in a complete tax -deferred transfer or distribution. For more information, see the current version of IT -278, D E A T H O F A PARTNER OR OF A RETIRED PARTNER. 4. By virtue of subsection 252(3), a taxpayer's spouse includes, for purposes of subsection 70(6), an individual of the opposite sex who is party to a voidable or void marriage with the taxpayer. Furthermore, subsection 252(4) extends the meaning of spouse, 6
for purposes of the Act, to include what is generally referred to as a "common-law spouse." Establishment of Testamentary Spouse Trust 5. A spouse trust, as described in subsection 70(6), is created by a taxpayer's will (see s 11 and 12 below) and must entitle the spouse to receive all the income of the trust arising before the spouse's death. Furthermore, no one but the spouse may receive or otherwise obtain the use of any of the trust's income or capital before the spouse's death (see also s 13 to 16 below). For subsection 70(6) to apply, the capital property transf erred or distributed to the spouse or spouse trust must vest indefeasibly in the spouse or spouse trust within 36 months of the taxpayer's death or, upon written application to the Minister within that period, within such longer period as the Minister considers reasonable in the circumstances. In addition, by virtue of subsection 248(9.2), the property must vest indefeasibly in the spouse or spouse trust before the spouse's death. For information on the term "vest indefeasibly," see the current version of I T-449, M E A N I N G O F "VE S T E D INDEFEASIBLY." 7
6. For a testamentary trust to qualify as a spouse trust under subsection 70(6), the deceased must have been resident in Canada immediately before death and the trust created by the deceased's will must be resident in Canada immediately after the time the property vested indefeasibly in the trust. 7. An executor may have the discretion as to which properties are to be transferred to the spouse trust with the will specifying only the total value of the property or portion of the estate to be so transferred. The will may also provide for the establishment of more than one trust (for example, a spouse trust and a family trust) and specify the total value of property to be transferred to each trust while leaving to the executor's discretion the selection of specific property to be transferred to each trust. In other instances, the will may direct the establishment and terms of a spouse trust but leave total discretion to the executor to select both the total value of a nd property to be transferred to the trust. In the absence of any express directions in the will, the executor is governed by the law of the relevant jurisdiction in allocating the property of the estate to the various beneficiaries and trusts. These kinds of arrangements do not disqualify a trust otherwise qualifying as a spouse trust. 8
8. Once a trust qualifies as a spouse trust under the terms of subsection 70(6), it remains a spouse trust and is subject to the provisions affecting such trusts (for exam ple, paragraph 104(4)(a)) even if its terms are varied by agreement, legal action or breach of trust. However, these events may cause other provisions of the Act to apply, such as paragraph 104(6)(b) and subsections 106(2) and 107(4). Transfer or Distribution as a Consequence of Death and Trust Created by Will 9. By virtue of subsection 248(8), a property is considered to have been transferred or distributed to, and acquired by, a spouse or spouse trust as a consequence of a taxpayer's death when the transfer, distribution or acquisition was: (a) under, or as a consequence of, the terms of the will or other testamentary instrument of the taxpayer, (b) as a consequence of the law governing the intestacy of the taxpayer, or 9
(c) as a consequence of a disclaim er, release or surrender (see 10 below) by a beneficiary under the will or other testamentary instrument or on the intestacy of the taxpayer. 10. Subsection 248(9) describes "disclaimer" and "release or surrender" for the purposes of subsection 248(8). A disclaimer involves an outright refusal to accept a gift, share or interest under a will, with no stipulation as to how the taxpayer's legal representatives should distribute the disclaimed property. A disclaimer of property in favour of another person is not a true disclaimer but an assignment. However, when such a disclaimer or assignment would achieve the same effect as a simple disclaimer without any assignment, a disclaimer is considered to have been made for the purposes of subsection 70(6). In Quebec a disclaimer includes a renunciation of a succession made under the laws of that province that is not made in favour of any person. For subsection 70(6) to apply, a disclaimer must be made within 36 months of the taxpayer's death or, upon written application to the Minister within that period, within such longer period as the Minister considers reasonable in the circumstances. A release or surrender made under the laws of a province (other than the Province of Quebec) must not be in favour of a particul ar person. 10
For the Province of Quebec, a release or surrender means an I N T E R VIVOS gift of an interest in, or right to property of, a succession made to the person who would have benefited had the donor renounced the succession but not in favour of anyone. A release or surrender, whether made within the Province of Quebec or otherwise, must be made within the same time as a disclaimer is made, as described above. 11. In relation to the Province of Quebec, subsection 248(3) deems (a) a usufruct, (b) a right of use or habitation, or (c) a substitution, to be a trust. The trust is deemed to be created by will where (a), (b) or (c) was established by will. The property subject to (a), (b) or (c) is deemed to have been transferred to and held by a trust. Furthe rmore, the transfer is deemed to have occurred on, and as a consequence of, the death of the testator when (a), (b) or (c) arises on the death of that person. For more information on subsection 248(3), see the 11
current version of IT -437, OWNERSHIP OF PROPERTY (PR I N C I P A L R E S I D E N C E). 12. Whether or not a trust was created by a taxpayer's will, subsection 248(9.1) recognizes that a qualifying spouse trust may be established by a court order, in relation to the taxpayer's estate, made under any law of a provin ce that provides for the relief or support of dependants. A similar result may not be achieved by a variation made by agreement among the beneficiaries, even under variation of trusts legislation since such a trust is not created as a consequence of death within the meaning of subsection 248(8). Requirements regarding the Income and Capital of a Spouse Trust 13. As indicated in 5 above, to qualify as a spouse trust, the spouse must be entitled to receive all the income of the trust arising before the spouse's death and no one but the spouse may receive or otherwise obtain the use of any of the income or capital of the trust before the spouse's death. For this purpose, subsection 108(3) provides that the income of the trust is its income calculated under 12
trust rules (rather than in accordance with the Act) less any dividends included therein: (a) that are not included in computing the trust's income, for other purposes of the Act, by reason of section 83, (b) that are described in subsection 131(1), or (c) to which subsection 131(1) applies by reason of subsection 130(2). Consequently, a trust will not be precluded from qualifying as a spouse trust because of the fact that, under the terms of the trust, such dividends are not paid or payable to the spouse. Also, amounts such as taxable capital gains (that are not in the nature of income under trust rules) which were neither paid nor payable to the spouse under the terms of the trust, nor included in the spouse's income under a preferred beneficiary election, are necessarily taxed in the trust, since during the spouse's lifetime no one but the spouse may receive anything out of a qualifying spouse trust or make a preferred beneficiary election in connection with the trust's income. 13
14. Under subsection 108(4), a trust is not prevented from qualifying as a spouse trust solely because it is charged with the payment of (a) any income or profits tax on any of its income computed in accordance with the Act, or (b) any estate, legacy, succession or inheritance duty payable in consequence of the testator's death on any property of the trust or any income or capital interest in it. 15. In interpreting the requirement that the spouse must be entitled to receive all of the income of the trust that arises before the spouse's death, the doctrine of constructive receipt is applied. Consequently, the payment according to the will of, or the provision in the will for the payment of, any income of the trust to a person other than the spouse, on the condition that it be used solely for the benefit of the spouse, does not disqualify an otherwise qualifying spouse trust. 16. In interpreting the requirement that no person except the spouse may, before the spouse's death, receive or otherwise obtain 14
the use of any of the income or capital of the trust, the renting of real estate at market value or the lending of money on commercial terms (including market rates of interest, appropriate securities and a reasonable repayment schedule), does not generally mean that the person renting the real estate or borrowing the money has received or has the use of that property as the term is used in this requirement. "Tainted" Spouse Trust 17. A trust created by a taxpayer's will in favour of a spouse that does not meet the qualifications of a spouse trust set out in subsection 70(6) is commonly referred to as a "tainted" spouse trust. One cause of a spouse trust being tainted is a direction in the will to pay out of the trust various debts, obligations or death duties, other than those to whi ch subsection 108(4) applies (see 14 above). 18. Subsection 70(7) provides a method for untainting some types of tainted spouse trusts, thus permitting the rollover provided by subsection 70(6). This is possible when the debts, obligations and death duties referred to in 17 above are "testamentary debts" and 15
the trust otherwise qualifies as a spouse trust. The term "testamentary debt," which is defined in paragraph 70(8)(c), means: (a) any debt of the taxpayer, or any other obligation of the taxpayer to pay an amount, that was outstanding immediately before his or her death, and (b) any amount payable by the estate in consequence of the taxpayer's death, other than any amount payable to any person as a beneficiary of the estate, including income or pro fits tax payable by or for the taxpayer for the taxation year in which he or she died and for any previous taxation year, and any estate, legacy, succession or inheritance duty payable in consequence of the taxpayer's death. Testamentary debts also include funeral and testamentary expenses and compensation to representatives for carrying out those duties which are normally exercised by an executor or administrator, that is, up to the point the estate properties are transferred or distributed to the beneficiaries or to the trustee of the tainted spouse trust or any other trust arising on death. 16
19. A trust for the benefit of a spouse is tainted in a manner that cannot be remedied by the method provided in subsection 70(7) if certain types of obligations are to be met out of its property before the death of the spouse. Examples of such obligations include: (a) a contingent liability to make good any deficiency that may arise in another trust created under the same will, (b) a liability for the payment of trus tee fees applicable to other trusts under the will, (c) an obligation to pay a bequest to another beneficiary out of the property of the estate that is held by the spouse trust, and (d) a remarriage clause which, if the spouse remarries, would result in someone other than the spouse being entitled to income or capital of the trust before the spouse's death. The trust is not tainted in this manner, however, if the debt or obligation to be met is: (e) a testamentary debt (see 18 above), (f) a debt or obliga tion to the spouse, 17
(g) a debt or obligation incurred for the benefit of the spouse, or (h) an obligation to pay fees to the trustee for the administration of the spouse trust. 20. In general terms, the method provided in subsection 70(7) to untaint a tainted spouse trust that is capable of being untainted is to total all testamentary debts of the trust and deduct: (a) any estate, legacy, succession or inheritance duty payable, in consequence of the taxpayer's death, for any property of the trust, or for any interest in the trust (note that these amounts do not taint a spouse trust as explained in 14 above), and (b) any debt secured by a mortgage on property owned by the taxpayer immediately before his or her death. The remaining debts are referred to in paragraph 70(8)(b) as non-qualifying debts. In the deceased taxpayer's regular income tax return for the year of death (that is, not a return filed under subsection 70(2), 104(23) or 150(4), or paragraph 128(2)(e)), the taxpayer's legal representative mus t elect to have the trust treated as a spouse trust and list one or more properties of the trust (other than 18
a net income stabilization account) having a total fair market value immediately after the taxpayer's death at least equal to the total of the non-qualifying debts. The list may include money and if it alone is sufficient to cover the non -qualifying debts, no other properties need be listed. The trust is then deemed to be a spouse trust and capital properties listed against the non -qualifying debts a re deemed to have been disposed of, by virtue of subsection 70(5), at fair market value immediately before the taxpayer's death. As a result, any gains, income or losses arising from such deemed dispositions are included in computing the deceased's income. The other capital properties transferred to the spouse trust qualify for the rollover provided in subsection 70(6). The following example illustrates how a tainted spouse trust may be untainted: Testamentary debts Income tax owing by the deceased $ 10,000 Business debt of the deceased 25,000 Mortgage on apartment building 80,000 Mortgage on land 10,000 19
Testamentary and funeral expenses 1,000 $ 126,000 20
To determine non-qualifying debts, deduct: Mortgage on apartment building $ 80,000 Mortgage on land 10,000 90,000 Non-qualifying debts $ 36,000 The executor then lists properties of the tainted spouse trust having a total fair market value immediately after death at least equal to these non-qualifying debts. For this purpose, paragra ph 70(8)(a) defines the fair market value of a property as the amount, if any, by which its fair market value otherwise determined exceeds the amount of any debt secured by a mortgage on the property. 21
Listed property: Shares Fair market value $ 9,000 Land Fair market value $ 41,000 Less: Mortgage on the land 10,000 Net fair market value of the land 31,000 Net fair market value of listed property $ 40,000 Capital gain or loss: Shares Fair market value $ 9,000 Adjusted cost base to t he deceased 6,000 Capital gain $ 3,000 Land Fair market value $ 41,000 Adjusted cost base to the deceased 30,000 Capital gain $ 11,000 22
The deemed disposition rules in subsection 70(5) apply to the capital properties so listed and, in th is example, the total capital gain before any reduction under subparagraph 70(7)(B)(iii) (see 21 below) is $14,000 ($3,000 + $11,000). 21. When the fair market value of all the properties listed exceeds the total non-qualifying debts (this excess is re ferred to as the "listed value excess") and the taxpayer's legal representative designates one capital property so listed (other than money and depreciable property) in the taxpayer's return, the capital gain or loss on that property (from the deemed dispo sition under subsection 70(5)) will be reduced as a result of the formula in subparagraph 70(7)(b)(iii). Under subparagraph 70(7)(b)(iii), the capital gain or loss on the property is: Capital gain or loss otherwise determined Fair market value of the one property minus the listed value excess Fair market value of the one property immediately after death 22. The following examples illustrate the application of the rule in subparagraph 70(7)(b)(iii). 23
Example 1: The listed value excess in the example in 20 above is $4,000 ($40,000 $36,000). In that example, assume that the legal representative has designated the shares that have been listed. Pursuant to subparagraph 70(7)(b)(iii), the capital gain on the shares is calculated as follows: $3,000 ($9,000 $4,000) $9,000 = $1,667 Therefore, the total capital gain to be included in the deceased's income is $12,667 ($1,667 + $11,000). The adjusted cost base of the two properties to the spouse trust is: land $41,000 (by virtue of paragraph 70(5)(b)) and shares $7,667 ($6,000 + $1,667, by virtue of clause 70(7)(b)(iv)(A)). Example 2: Same as example 1 above; however, assume that the adjusted cost base of the shares is $16,000 and that, consequently, the shares otherwise result in a capital loss of $7,000 ($9,000 $16,000). 24
The capital loss calculated in accordance with subparagraph 70(7)(b)(iii) is: $7,000 ($9,000 $4,000) $9,000 = $3,889 Therefore, the net capital gain from the land and shares is $7,111 ($11,000 $3,889). The adjusted cost base of the two properties to the spouse trust is: land $41,000 (by virtue of paragraph 70(5)(b)) and shares $12,111 ($16,000 $3,889, by virtue of clause 70(7)(b)(iv)(B)). 23. Where non-qualifying debts include income tax payable by the deceased's representative for the income tax return for the year of death, the amount payable is calculated after giving effect to the provisions of paragraph 70(7)(B). It is therefore necessary to consider the effect that the listing of a particular property will h ave on the amount of tax payable. The adjustment of a capital gain or loss on a designated property pursuant to subparagraph 70(7)(b)(iii) may also have a significant effect in some circumstances. When the amount of the tax liability is a critical factor i n the selection of properties to be 25
listed (or the property to be designated), more than one notional tax calculation may be necessary. 24. The legal representative is not obliged to dispose of the listed properties of the trust to obtain the funds to pa y the non-qualifying debts. They may be paid from any available source of funds. 25. The legal representative is responsible for calculating the non-qualifying debts and the fair market value of listed properties as accurately as possible from the facts available. When these calculations are subsequently determined to be incorrect, despite the reasonable efforts of the legal representative, and the value of the listed properties is actually less than the total of the non -qualifying debts, we will permit a dditional properties to be listed at that later time in order that the provisions of subsection 70(6) may still apply to the properties of the trust that are not listed. 26. It is arguable that a trust in favour of a spouse created under a taxpayer's will out of the residue of his or her estate is tainted by the distributions and payments necessary to establish the trust corpus. Under this interpretation, it is necessary to follow the procedures set out in subsection 70(7) when it is intended that the tru st qualify as a 26
spouse trust under subsection 70(6). Another view is that subsection 70(6) applies to such of the original properties of the estate as are retained to form a part of the trust corpus without the necessity of following the procedures describ ed in subsection 70(7). Either interpretation is acceptable with the result that a trustee has the following options available when an otherwise qualifying spouse trust is created out of the residue of an estate: (a) The trustee may choose to have the prov isions of subsection 70(5) apply to all of the capital properties of the estate. (b) By following the procedures described in subsection 70(7), the rules in subsection 70(6) will apply to those capital properties of the spouse trust that are not listed and the rules in subsection 70(5) will apply to listed properties of the estate, subject to adjustment for any "listed value excess" (see 21 above). (c) The trustee may choose to have subsection 70(5) apply to all of the capital properties of the estate tha t are distributed or otherwise disposed of before the corpus of the spouse trust is established and have subsection 70(6) apply to such of the original capital properties of the estate as are retained as the property of the trust. The fact that, prior to the indefeasible 27
vesting of the properties in the trust, income derived from these properties is used by the estate to pay specific bequests or testamentary debts does not preclude the trust from qualifying as a spouse trust. The right to elect under subse ction 70(6.2) (referred to in 2 above) is unaffected by the adoption of either option (b) or option (c). 27. Although the treatment for tax purposes applicable to the acquisition of listed properties by a trust differs from that applicable to the acquisition of the balance of the trust properties, listed properties are, nevertheless, properties of a spouse trust and subject to the special rules relating to spouse trusts found elsewhere in the Act (for example, the deemed disposition of such properties under paragraph 104(4)(a) upon the death of the spouse). 28. Whenever a tainted spouse trust capable of being untainted by subsection 70(7) is created, regardless of the simultaneous creation under the will of other trusts to which subsection 70(7) is irrelevant, the legal representative has up to 18 months from the date of death to file the deceased's final income tax return. This is the case whether or not such a trust is successfully untainted under 28
paragraph 70(7)(b). This extended time for filing also applies to special returns that may be filed pursuant to subsection 150(4) and paragraph 104(23)(d). Although the due date for making an election under subsection 70(2), for rights or things of the deceased at the time of death, is indirectly extended if the extended filing date referred to above delays the mailing of a notice of assessment for the year of death, the basic rule (the later of one year after death and 90 days after the mailing of any notice of assessment for the year of death) remains uncha nged. If death occurs on or before April 30 in a taxation year, the deceased's legal representative has up to 6 months from the date of death to file the deceased's income tax return for the immediately preceding taxation year. Otherwise, there are no extensions in the filing requirements for income tax returns of taxation years prior to the year of death. Note: Bill C-36 contains a number of income tax measures announced in the February 27, 1995 budget. Among other things, the Bill will amend paragraphs 15 0(1)(b) and (d), applicable to the 1995 and later taxation years. As a result of these amendments, the due date for filing a deceased person's income tax return may be extended if 29
the deceased person, or the deceased person's spouse, carried on a business in the year of death (except where the expenditures of the business are primarily the cost or capital cost of "tax shelters"). In such circumstances, the due date for filing the return is: on or before June 15 of the year following the year of death if the individual died during the period January 1 to December 15; and within six months after the date of death if the individual dies during the period December 16 to December 31 or during the period January 1 to June 14 of the following year (that is, before the individual's filing due date for the previous year had the individual not died). 29. Although the income tax return for the year of death may be filed within 18 months of death whenever a trust is untainted by an election provided for in subsection 70(7) so as to qualify as a spouse trust, interest at the prescribed rate will be assessed on any unpaid balance from the later of six months after death and April 30 of the year following death. 30
Transfer or Distribution of Net Income Stabilisation Account (NISA) to Spouse Trust 30. The income which would otherwise arise as a result of a taxpayer's death, by virtue of the deemed payment out of the taxpayer's NISA Fund No. 2 under subsection 70(5.4), is deferred if, on or after the death and as a consequenc e thereof, the taxpayer's NISA is transferred or distributed to his or her spouse or to a trust established in favour of his or her spouse and the requirements of subsection 70(6.1) are met. The requirements applicable to a spouse trust in subsection 70(6.1) are the same as those applicable to a spouse trust in subsection 70(6), with the exception that subsection 70(6.1) does not contain any residency requirements such as those described in 6 above. 31. The deceased taxpayer's legal representative may, however, elect under subsection 70(6.2) to have subsection 70(5.4), rather than subsection 70(6.1), apply to the deceased's NISA Fund No. 2. If subsection 70(5.4) applies, all amounts in the deceased's NISA Fund No. 2 will be deemed to have been paid out t o the deceased immediately before death and such amounts will generally be required, under subsection 12(10.2), to be included in computing 31
the deceased's income for the year of death. The election under subsection 70(6.2) must be made in the regular incom e tax return for the year of death. 32. When a trust, which would otherwise qualify as a spouse trust under subsection 70(6.1), is tainted as a result of the payment (or provision for payment) of a testamentary debt (see s 17 to 19 above), subsection 70(7) may be used to untaint the trust (as explained in s 20 to 29 above), thus permitting the rollover provided in subsection 70(6.1). It should be noted, however, that, as indicated in 20 above, when untainting the trust, a NISA cannot be a listed property. Canada-United States Income Tax Convention (1980) 33. For subsection 70(6) to apply on the transfer or distribution of property to a taxpayer's spouse, the taxpayer and the taxpayer's spouse must be resident in Canada immediately before the taxpayer 's death and if the property is to be transferred or distributed to a spouse trust created by the taxpayer's will, the taxpayer must be resident in Canada immediately before death and the trust must be 32
resident in Canada immediately after the time the prop erty vests in the trust. Pursuant to paragraph 5 of Article XXIXB of the C A N A D A- U N I T E D STATES INCOME TAX C O N V E N T I O N (1980), where an individual was a resident of the United States immediately before the individual's death, for the purposes of subsection 70(6), both the individual and the individual's spouse are deemed to have been resident in Canada immediately before the individual's death and, if certain conditions described in that paragraph are met, a trust for that spouse will also be treated as being resident in Canada. 33
Introduction Explanation of Changes The purpose of the E X P L A N A T I O N O F CHANGES is to give the reasons for the revisions to an interpretation bulletin. It outlines revisions that we have made as a result of changes to the law, as well as changes reflecting new or revised departmental interpretations. Overview We revised the bulletin to incorporate relevant comments from Interpretation Bulletin IT -207R, "TA I N T E D" SPOUSE TRUSTS, dated March 26, 1979 and to cancel that bulletin. The revised b ulletin also reflects amendments to the INCOME TAX A CT by S.C. 1988, c.55 (formerly Bill C -139); S.C. 1991, c.49 (formerly Bill C -18); S.C. 1994, c.7 Schedule VIII (S.C. 1993, c.24 formerly Bill C-92); and S.C. 1994, c. 21 (formerly Bill C -27). A note has been added following 28 to describe a proposed amendment to paragraphs 150(1)(b) and (d) contained in Bill C -36 (the February 27, 1995 Federal Budget). Except as described in the Note following 28, the comments in the bulletin 34
are not affected by pro posed legislation that was released before August 30, 1996. Legislative and other changes The title of the bulletin has been revised since, as indicated above, the bulletin has been broadened to include comments from IT -207R. Throughout the bulletin we ha ve made minor changes for clarification or readability purposes. 3 has been added to clarify that, in certain circumstances, subsection 70(6) will not result in a complete tax -deferred transfer to a spouse or spouse trust. 4 has been added to reflect t he Bill C-92 amendment to subsection 252(3). As a result of this amendment, the extended meaning of spouse contained in subsection 252(3) also applies for purposes of subsection 70(6). 4 also reflects the Bill C -92 amendment which added the extended mean ing of spouse contained in subsection 252(4). 35
5 replaces the second part of 1 of IT-305R3 and the first sentence of 1 of IT-207R. The information that applied to years which are now statute-barred has been deleted. Furthermore, the paragraph refers t o subsection 248(9.2) which clarifies certain requirements that have to be met for property to become vested indefeasibly. 7 ( 8 of IT-305R3) addresses the situation in which a will directs the establishment and terms of a spouse trust but leaves total discretion to the executor to select both the total value of and property to be transferred to the trust. 8 contains the same information as 7 of IT-305R3, except that a reference to paragraph 104(6)(b) has been added to the last sentence. This referen ce has become relevant as a result of amendments to paragraph 104(6)(b) in Bill C-92. 11 has been added to reflect subsection 248(3). As a result of this provision, property subject to certain types of legal relationships in the Province of Quebec (a civ il law jurisdiction) may be eligible for the rollover to a spouse trust provided in subsection 70(6). 36
12 ( 5 of IT-305R3) reflects subsection 248(9.1) added by Bill C-92. This provision explains the circumstances under which a trust shall be considered to be created by a taxpayer's will for purposes of the Act. This provision replaced a similar rule that was found in subsection 70(6.1) which applied for purposes of subsection 70(6) and paragraph 104(4)(a). 13 ( 10 of IT-305R3) reflects the Bill C -139 amendments to subsection 108(3) relating to the description of the types of dividends referred to in that provision. 16 has been added to clarify the implications, to a spouse trust, of the renting of real estate or the lending of money, in light of the requirement (in subsection 70(6)) that no person except the spouse may, before the spouse's death, receive or otherwise obtain the use of any of the income or capital of the trust. s 17 and 18 contain the same information as s 3 and 4, respectively, of I T-207R. 19 is 5 of IT-207R, except that a new example of when a spouse trust cannot be "untainted" has been added. 37
20 replaces 6 of IT-207R and reflects relevant Bill C -92 amendments to subsections 70(5) and (7). Subsection 70(5) was amended to provide that the deemed disposition of a taxpayer's depreciable property, under that provision, would be for proceeds equal to the fair market value of the property immediately before the taxpayer's death. Prior to this amendment to subsection 70(5), depreciable property was essentially deemed to have been disposed of immediately before death for proceeds equal to midpoint between the undepreciated capital cost and the fair market value of the property immediately before death. Amendments to subsection 70(7) ensure that the election referred to in that provision is made in the regular income tax return for the year of death. The amendments provide that a net income stabilization account could not be listed for purposes of untainting a spouse trust and they dele te the references to "specified" properties from subsection 70(7). The example in 20 is essentially the same as in 6 of IT-207R, except that death duties have been removed from the example for simplification purposes since such duties are not common. s 21 and 22 are a rewording and reorganization of s 7 and 8 of IT-207R. The reference to "specified" capital property, in 7, has 38
been deleted as a result of amendments to subsection 70(7) (see discussion in 20 above). s 23 and 24 contain the same inf ormation as s 9 and 10, respectively, of IT -207R. 25 replaces 11 of IT-207R and reflects the deletion by Bill C -92 of the references to "specified" properties from subsection 70(7). 26 contains the same information as 12 of IT-207R and 9 of IT-305R3. 27 contains the same information as 15 of IT-207R. 28 replaces 13 of IT-207R. The paragraph reflects the Bill C -18 amendment to paragraph 150(1)(b) for the filing deadline for a deceased's income tax returns for taxation years prior to the ye ar of death. A Note has been added following the paragraph to reflect a proposed amendment to paragraphs 150(1)(b) and (d). 29 contains the same information as 14 of IT-207R. 39
s 30 and 31 reflect the addition of subsections 12(10.2), 70(5.4) and 70(6.1) and the amendment of subsection 70(6.2) by Bill C -92. The paragraphs briefly discuss the tax consequences for a deceased taxpayer, where amounts were held for or on behalf of the taxpayer in his or her NISA Fund No. 2 at the time of death. In particular, the paragraphs discuss subsection 70(6.1) which provides for a deferral of these tax consequences, where the taxpayer's NISA is transferred or distributed to the taxpayer's spouse or to a trust established in favour of the spouse and the other requirement s of that provision are met. 32 reflects the reference to subsection 70(6.1) in subsection 70(7) which was amended by Bill C -92. As a result, subsection 70(7) may be used to "untaint" certain types of "tainted" spouse trusts in order to permit the rollov er provided by subsection 70(6.1). 33 has been added to discuss paragraph 5 of Article XXIXB of the C A N A D A-UNITED STATES INCOME TAX C O N V E N T I O N (1980). 40