Fellow bloggers and I have written in the past about how income from a Trust is not deemed payable to a beneficiary (pursuant to relevant sections of the Income tax Act) unless it has been paid to the beneficiary or the beneficiary has the legal right to demand payment during the year.
Recently, the Canada Revenue Agency (“CRA”) was asked to review a hypothetical situation related to this issue which I found not so hypothetical and highlights the difficulties with managing tax issues within a Trust which trustees and trust managers encounter from time to time.
The CRA was presented with the following simple facts: The Trust had earned taxable income of $525,000 and incurred a non-deductible expense of $25,000, such that it retained only $500,000 in cash. Specifically, the CRA was asked whether the Trust could avoid taxation on the full taxable income by paying it, or making it payable to its beneficiaries.
Referencing the above regarding what is deemed payable, the CRA noted that if the Trust has insufficient assets (in this example cash) to pay the full taxable income to the beneficiaries, the excess cannot be payable to the beneficiaries pursuant to the Income Tax Act and would, therefore, remain taxable in the trust.
The result of this situation does not get any better because the income remaining taxable in the trust would generate income taxes payable, representing an additional cash outlay not deductible to the Trust. Presumably, retention of further trust income in the trust would be required to fund the tax payment in the following year.