As this is my last blog for the 2015 year, I thought I’d take the opportunity to remind readers who are trustees of a discretionary family trust set up for the benefit of their family (or other persons) (referred to as “a trust”) that it is important they consider and document decisions to distribute income (including realized taxable capital gains) out to a beneficiary prior to December 31st.
By way of explanation, for Canadian income tax purposes, a trust is considered to be a separate taxpayer. The income of the trust is generally computed in the same way as is the income of any individual, but unlike an individual and subject to a few exceptions, a trust is subject to a flat rate of tax on all income earned, at the highest marginal rate. In computing its net income a trust is, however, entitled to a deduction in respect of income that is payable in the year to the beneficiaries. An amount will be payable to a beneficiary in a year if:
- in that year it is paid to the beneficiary, or
- in that year the beneficiary is entitled to enforce payment of the amount.
The income deducted from the trust’s net income is taxed in the hands of the beneficiary, at that beneficiary’s marginal tax rate, provided that the “kiddie tax” will result in any income paid or payable to a beneficiary under the age of 18 in the year being taxed at the top marginal rate and not the beneficiary’s marginal rate.
It is important to remember that any amounts paid or payable to a beneficiary are the property of the beneficiary; he or she will have the ability to call for these amounts upon attaining the age of majority, which in Ontario is currently age 18.
A beneficiary is generally considered to be entitled to enforce payment of the amount in the year, if all decisions, steps and authorities with respect to the payment of the amount to the beneficiary have been taken in the year. In the case of a discretionary family trust, the trustees must actually exercise their discretionary power on or before the trust’s taxation year end in order to make an amount payable in that year. This exercise of discretion by the trustees should be evidenced by an irrevocable resolution in writing executed by the trustees before the taxation year end of the trust. The year end of a trust for income tax purposes is December 31st. In addition, Canada Revenue Agency is of the view that in order for an amount to be paid or payable to a beneficiary, notice of the trustee’s decision to make a distribution to a beneficiary ought to be given to the beneficiary.
Finally, tax returns for a discretionary family trust must be filed within 90 days of the trust’s year end. So, for the year ending December 31st, 2015, the tax return should be filed by March 30th, 2016 as 2016 is a leap year.
 A deduction is also available for income that is subject to a “preferred beneficiary election”. A discussion of this election will follow in another blog at some point in the future.