All About Estates

Death and TOSI

In my previous blog I looked at the revised rules for the tax on split income, or “TOSI”, that were released on December 13, 2017. In that blog I noted there are special rules that apply in respect of income and gains on property that is acquired as a consequence of death. This blog focuses on those provisions.

If income or gains from property are “split income”[1] the TOSI applies and the income or gain is taxed at the highest marginal rate unless an exception applies. For example, if any portion of that income or gain qualifies as an “excluded amount” it is not included in the individual’s split income and is accordingly not subject to the TOSI. The definition of “excluded amount” contains two exclusions for property acquired as a consequence of death:

  1. the taxable capital gain that arises as a consequence of the death of an individual is an excluded amount; and
  2. if an individual is under 25 years throughout the year (i.e. this exception will not apply in the year the individual turns 25 and later years):
    • the income or gain from property acquired as a consequence of the death of a parent is an excluded amount; and
    • the income or gain from property acquired as a consequence of the death of any person is an excluded amount if the individual is a full-time post-secondary student or qualifies for the disability tax credit.

In addition to the exclusions set out above, there are three deeming rules that apply if an individual who is 18 years or older in the year acquires property as a consequence of the death of another person and the income or gain from that property would otherwise be split income.[2]

Two of the deeming rules relate to the concept of a “reasonable return”. An individual’s income or gain from property that would otherwise be split income is an excluded amount if it represents a reasonable return and the individual is 25 years or older in the year. A reasonable return is determined having regarding to the individual’s labour contribution, capital contribution, risk assumed, historical payments to the individual, and any other relevant factors.[3] If the individual is between 18 and 24 years in the year, the amount that represents a reasonable return is also exempt from the TOSI as an excluded amount, but only contributions of “arm’s length capital” are considered in that determination.

If an individual acquires property from another individual as a consequence of death, the first deeming rule provides that the factors used to determine whether an amount is a reasonable return as they relate to the deceased owner of the property are considered when determining what is a reasonable return of the new owner (i.e. the person who acquired the property as a consequence of death). The second deeming rule provides that if the deceased owner was 25 years or older in the year of death, or would have turned 25 years in the year of death, then the new owner is deemed to be 25 in the year for this purpose.

In other words, the new owner is deemed to be 25 years in the year (for purposes of the reasonable return exception), such that the restrictions set out above for individuals who are 18 to 24 years do not apply, and the new owner inherits the profile of the deceased owner as it relates to the factors for determining if an amount is a reasonable return. The effect of the above deeming rules is that if the deceased owner was or would have been 25 years or older in the year of death such that a reasonable return of the deceased individual would be exempt from the TOSI as an excluded amount, that amount should, at least initially, also be exempt from the TOSI if the new owner is 18 years or older.

The third deeming rule relates to the concept of “excluded business”. If an individual is 18 years or older in a year and is actively engaged in a related business on a regular, continuous and substantial basis in the year or any five prior years (which need not be consecutive), the related business is an excluded business and any income or gain from the business that would otherwise be split income is an excluded amount. If an individual acquires property from another individual as a consequence of death, the third deeming rule provides that if the deceased owner was actively engaged on a regular, continuous and substantial basis in any five prior years, the new owner is deemed to have been actively engaged in those years. The effect of this deeming rule is that the income or gain will continue to be an excluded amount for the new owner.

Estate planners and other advisors assisting clients who are business owners will want to familiarize themselves with these exceptions and deeming rules, which provide some relief from the application of the TOSI in the succession context.

 

[1]       Generally, dividends and interest paid to an individual from a private corporation that is a “related business”, certain capital gains on the disposition of shares of a related business, and certain partnership, trust and rental income derived from a related business.

[2]       See new subsection 120.4(1.1)(b) of the Income Tax Act.

[3]       The factors are considered for the individual but relative to the same factors as they apply to the related person that causes the business to be a related business.

About Darren Lund
Darren Lund is a member of the Trust, Wills, Estates and Charities at Fasken, Toronto office. Darren has expertise in a broad range of estate planning matters, including multiple wills, inter vivos trusts, disability planning, estate freezing, and planning for beneficiaries and assets outside Canada. Darren advises trustees and beneficiaries on all aspects of estate administration, both contentious and non-contentious, and his experience includes passing of fiduciary accounts, trust variations, post-mortem tax planning, and administering the Canadian estates of non-residents. He also speaks and writes on a variety of related topics such as estate planning for spouses and couples, inheriting overseas property and estate planning for persons with disabilities. He previously practised estates law at a large national law firm. Email: dlund@fasken.com

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