Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.
Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CCRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ADRC.
Principal Issues: 1. General comments on the availability of the principal residence exemption for property held by a trust or alternatively held by beneficiaries of an estate as tenants in common.
Position: 1. Whether a trust is set up by a will or by empowered executors is a question of fact and must be first determined in order to establish whether or not the principal residence exemption can be claimed
Reasons: 1. Where the property has vested indefeasibly in the beneficiaries, it is they who should be the taxing entities and not the "trust/estate"-in which case generally only the co-tenant who "ordinarily inhabited" the housing unit would be entitled to the principal residence exemption
2001-010704
XXXXXXXXXX Lena Holloway
613-957-2104
February 18, 2002
Dear XXXXXXXXXX:
Re: Principal Residence Status of XXXXXXXXXX
This is in reply to your letter of October 16, 2001, which requested an advance income tax ruling in order to establish the tax status of a particular residence. Your letter set out specific facts involving past transactions concerning the aforementioned address and in particular requested a "ruling" confirming your understanding of the provisions of the Income Tax Act (Canada) (the "Act").
As explained in Information Circular 70-6R4 dated January 29, 2001, this Directorate can only issue an advance income tax ruling in respect of proposed not past transactions involving specific taxpayers. Where the particular transactions are completed, all relevant facts and documentation should be submitted to the appropriate taxation services office for their views. It should also be noted that we would need the appropriate authorization from the taxpayers that are the subject of your enquiry in order to discuss their tax affairs with you. We have however set out some general comments on the subject of your enquiry which may be of assistance to you regarding the administration of the estate of a deceased taxpayer and in particular a principal residence bequeathed by a parent to his children.
All references herein are to the Act unless otherwise indicated.
Pursuant to subsection 70(5), a taxpayer is deemed to have disposed, immediately before death, each capital property owned, for proceeds of disposition equal to the fair market value of the property immediately before death. Accordingly, the deceased is taxed on any capital gain that arose prior to the date of death. However, where the property qualifies as a principal residence for the full period of ownership by the deceased, any capital gains arising on such property will be exempt from tax.
It is a question of fact whether or not a trust has been set up by a taxpayer's will. Where the creation of a trust is left up to the executors' discretion, any trust created by them would be an inter vivos trust, as opposed to a testamentary trust which originates from the testators' will itself. In absence of express wording in the testamentary instrument or clear intention and actions undertaken by the executors, it is unlikely a trust has been created. It is standard wording for a will to give the executors the power to retain or convert assets. Such wording allows them the flexibility to determine the optimum timing for asset disposal so that they may best fulfill their fiduciary responsibilities. Many wills contain words that allow the executors the power to postpone conversion of such assets for such length of time as they may think best. Such wording would not provide the executors with an ongoing mandate to invest or hold the property of an estate on an indefinite basis. More particularly, where estate property has not been physically distributed within some reasonable length of time, most provinces have legislation that will dictate when the vesting of the property would occur. For example, in Ontario, section 9 of the Estates Administration Act, R.S.O. 1990, c. E.22, provides that:
(1) Real property not disposed of, conveyed to, divided or distributed among the persons beneficially entitled thereto under section 17 by the personal representative within three years after the death of the deceased is, subject to the Land Titles Act in the case of land registered under that Act and subject to subsections 53(3) and (5) of the Registry Act ...thenceforth vested in the persons beneficially entitled thereto under the will..."
Therefore, in Ontario, even where real property has not formally been transferred from the estate to the beneficiaries (i.e. proper registrations have not been undertaken) the law would consider the beneficiaries as the owners of the property three years after the deceased's date of death. For tax purposes one must look at who owns the property. Beneficiaries entitled equally to a single real property would take as tenants-in-common unless divisions and dispositions occurred before the property was distributed to them, or vested in them.
Whether a family home is left to children of the deceased as tenants-in-common or settled upon a trust on their behalf is a question of fact, but in either case the property may qualify to be a principal residence for purposes of the Act.
Application of the Act - where a Trust is set up:
The definition of "principal residence" in section 54 provides in paragraphs (a.1) and (c.1) that a personal trust may generally claim a property as a principal residence for a taxation year where, in the calendar year ending in that year, an individual (referred to as a "specified beneficiary") "beneficially interested" in the trust (as that term is defined under subsection 248(25)) ordinarily inhabits the property or whose spouse, common-law partner or former spouse or common-law partner or child ordinarily inhabits it. Paragraphs 35 and 36 of IT-120R5 provide additional information on the requirements for claiming the principal residence exemption by a personal trust.
When rent commences to be charged on a residence that was previously used as a personal residence, it is considered to be a change in use from personal use to income producing. Subsection 45(1) provides that for the purposes of the Act, when a taxpayer changes the use of the property, the taxpayer (which includes a trust) is deemed to have disposed of the property for proceeds equal to fair market value and to have reacquired the same property immediately thereafter for the same amount. While this fair market value becomes the new adjusted cost base of the property, any capital gain arising on this deemed disposition must be recognized unless it can be sheltered by the principal residence exemption or the taxpayer elects to defer the gain under subsection 45(2). The election under subsection 45(2) is explained in paragraphs 25 to 27 of IT-120R5.
As stated in paragraph 25 of IT-120R5, subsection 220(3.2) of the Income Tax Act, in conjunction with section 600 of the Income Tax Regulations, provides the authority for the Canada Customs and Revenue Agency (the CCRA) to accept a late-filed subsection 45(2) election. However such a late-filed election may be accepted under certain circumstances, one of which is that no CCA has been claimed on the property since the change in use has occurred and during the period in which the election is to remain in force.
Where a property changes back to personal use from being used as income-producing, subsection 45(1) would apply to deem a disposition and reacquisition at fair market value. The election to defer the capital gain under subsection 45(2) is not available where the property changes from income-producing to personal, however subsection 45(3) of the Act enables a taxpayer who has changed the use of a housing unit from income-producing to principal residence to defer recognition of any capital gain that would otherwise be triggered by subsection 45(1). As indicated in paragraph 28 of IT-120R5, an election under subsection 45(3) is not possible if, for any taxation year ending after 1984 and on or before the change in use of the property from income-producing to a principal residence, CCA has been allowed in respect of the property to, inter alia, the taxpayer.
Where a personal trust changes the use of a housing unit held by it from income-producing to personal use, it may, from the date of the change in use forward, generally claim the property as a principal residence for each year a specified beneficiary ordinarily inhabits the property. In order for the trust to qualify for the exemption, the principal residence must be so designated in prescribed form and manner. The designation ensures that not more than one principal residence may be claimed, either directly or through a trust by a family unit for a taxation year.
Application of the Act - where property is transferred to children directly:
Any increase in value of a housing unit after the date of transfer to joint owners (i.e. the children of the deceased) will result in a capital gain upon actual or deemed disposition if it is not sheltered by the principal residence exemption. That is, in general terms, to the extent that a portion of any gain is allocable to a joint owner who is not residing on the property, it will be taxable to that joint owner. Where a deceased taxpayers' former residence is transferred, either directly or by operation of law (i.e. Estates Administration Act, R.S.O. 1990, c. E.22) to his children, upon administration of his estate, the principal residence exemption may generally be available only to those children who "ordinarily inhabited" the property during the year. The term "ordinarily inhabited" is explained in detail in paragraph 5 of IT-120R5.
Where, for example, a parent bequeaths the family home equally to his four children and only one of the four "ordinarily inhabits" the property, the one "inhabiting" child would be entitled to claim the principal residence exemption in respect of his/her quarter interest. CCA cannot be claimed in respect of this interest. The three remaining children would each have to recognize their quarter interest in any capital gain arising on the eventual disposition of the property unsheltered by the principal residence exemption. The change in use rules described above would also apply individually to any of the siblings where they alter the use of their particular interest in the property.
As the determination of the tax consequences of the situation described in your letter requires a detailed review of past transactions, we would suggest that you contact the relevant tax services office should you require further assistance on these issues.
We trust the above comments are of assistance to you.
Yours truly,
Milled Azzi, CA
for Director
Business and Partnerships Division
Income Tax Rulings Directorate
Policy and Legislation Branch
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