The number 21 figures prominently in estate planning and administration – at least three separate rules feature the number. Having been involved in estate and trust education for a number of years, I can attest to the fact that the three rules can be confusing on their own and may spell real trouble when applied in combination.
The three rules govern: when capital/gains losses generated by trust property must be recognized; how long income may be accumulated in a trust; and, how long a trust may last. All three still apply in Ontario.
The 21-Year Deemed Disposition Rule
Section 104 of the Income Tax Act prevents a trust from holding property for an indefinite period, thereby deferring the taxation of capital gains. There are actually several deemed disposition rules set forth in subsections 104(4) – 104(5.2) on the Income Tax Act. Generally, though subject to a number of exceptions, The Rule mandates a deemed disposition and reaquisition by the trust of capital property every 21 years for notional proceeds equal to the fair market value. It is possible to avoid the application of the 21-year rule by ensuring the terms of the trust provide the property can be distributed out to a Canadian resident beneficiary before the 21-year deadline.
Rule Against Accumulations
This rule relates to the length of time a trust is permitted to accumulate income. In Ontario, the rule was codified in the Accumulations Act and remains in force. Most other provinces have abolished the rule. The Accumulations Act establishes six maximum accumulation periods. Type of trust and/or beneficiaries determines which period applies. The most common period is 21 years from the death of the testator. Following the expiration of the accumulation period, income must be paid out notwithstanding the terms of the trust. See 3 Tricky Trust Rules for an example of how this works along with a more detailed discussion of all three rules.
Rule Against Perpetuities
The rule against perpetuities is one of the most misunderstood doctrines of common law. The rule dates back to late 17th century England and was designed to prevent testators from tying up property for long periods. The rule states that an interest in a trust must vest within a particular time period. This means the beneficiary must become entitled to the property within that timeframe. The time period specified was “no later than 21 years after the death of a ‘life in being’ when the interest was created.” Under Common Law an interest was void if there was any chance it might vest outside this period.
The rule has been abolished in a few provinces, including Saskatchewan, Manitoba and Nova Scotia. Others have simplified it and introduced a different time period for vesting (80 years in B.C., 60 in P.E.I.). Ontario’s Perpetuities Act retains the 21-year measure, but establishes a wait-and-see approach. Instead of deeming an interest void if it might possibly vest outside this period, interests are presumed valid until actual events establish the interest cannot vest within the perpetuity period.
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Estate and trust law can be complicated and jurisdiction specific. In order to ensure your estate is properly planned and ultimately administered, you’re encouraged to work with an estate specialist.