The cross-border family trust

The cross-border family trust

A trust is a popular tool used by taxpayers to sprinkle wealth among family members. Although in recent years the scope of the tool has been restricted, particularly in terms of the ability to income split, it is still valuable for a number of purposes, which may not be related to tax.

A simple family trust is a relationship created by a settlor, managed by a trustee who is holding property for the benefit of one or more beneficiaries, all of whom are residents of the same country. A simple family trust established by parents for family members may become a complicated family trust if the settlor, the trustee or the beneficiaries have a change of residency. These circumstances include:

  • For a Canadian trust, one or more of the beneficiaries became non‑residents
  • For a Canadian trust, due to a change of residency for the trustee(s), it is managed by a majority of non‑residents
  • A non‑resident trust with Canadian beneficiaries

Residence of a trust

The tax department considers a trust to be resident where its mind and management rests. This generally is where the decisions of the trust are made. Often, it is where the majority of the trustees reside. If resident and non‑resident trustees co‑exist, the residence of the trust will align with the person who has most or all of the powers or responsibilities, including those related to banking, financing arrangements, trust assets and reporting to the beneficiaries.

A Canadian resident trust may flow through Canadian source dividends and capital gains to its Canadian beneficiaries. It may also decide to split the tax burden between the trust and the Canadian resident beneficiaries, depending on their circumstances. However, these sources of income lose their tax beneficial treatment if paid to non‑resident beneficiaries.

If a trust ceases to be a Canadian, the trust will be deemed to have disposed of all its assets at the departure date and may realize a capital gain. If there is a tax treaty between Canada and the new country of residence, the deemed proceeds taxed in Canada may be recognized as the assets’ cost in the foreign country.

If a trust becomes a non-resident, it will likely be required to file a tax return in another country. A non‑resident trust will also be required to file a Canadian return under certain circumstances. The trust will need to ensure the double payment of tax is minimized.

Part XIII tax on distribution of income

Where any part of the income of a trust is payable to a non-resident beneficiary, the amount is subject to Part XIII withholding tax on the earlier of the day the amount was paid or credited and 90 days after the end of the trust’s taxation year. This means the tax is payable at the same time as the trust’s tax return.

Any amount paid or credited by a trust to a beneficiary is deemed to have been paid as income of the trust, regardless of the source from which the trust derived it. Even if the amount was received by the trust in a form which, if it had been paid directly to the non‑resident beneficiary, would have been exempt from withholding tax, Part XIII tax will still apply when it is paid by the trust to the non‑resident.

If the trust received capital dividends and distributed the amount to its non‑resident beneficiary, the capital dividend is subject to Part XIII tax. Such dividends would not be subject to tax if paid to the resident beneficiary.

Interest that would ordinarily be exempt from withholding tax if paid directly to the non‑resident beneficiary is subject to withholding tax if received by a trust and distributed to a non‑resident beneficiary.

Taxable capital gains of a trust that are payable to a non-resident beneficiary are subject to Part XIII tax. Even though a payment of such gains is a “payment of capital” under trust law, the CRA considers the distribution of the taxable portion to be a distribution of trust income and not capital. Therefore, it is subject to withholding tax. The non‑taxable portion of the trust’s capital gains does qualify for exemption as payment of capital.

Deemed resident trust

The deemed resident trust rules require careful analysis of all the facts and circumstances surrounding a trust.

Mr. A currently lives in the U.S., and he plans to become a resident of Canada. Before becoming resident in Canada, he made a contribution to a U.S. trust. At the time he becomes a resident of Canada, the U.S. trust will have a resident contributor and will be a deemed resident trust from the beginning of the year (not just from the time Mr. A becomes a Canadian resident).

A resident beneficiary is a Canadian resident who is a beneficiary under the trust, and there is a “connected contributor” to the trust at that time. A connected contributor is someone who has made a contribution while resident in Canada or within 60 months of moving to or leaving Canada.

Mr. B moved to the U.S. and established a U.S. trust within 60 months of leaving. The U.S. trust is for the benefit of his Canadian resident children. The trust will be deemed Canadian resident from the beginning of the year in which Mr. B made a contribution to the U.S. trust.

In addition to the above, there are many situations that may require a change in how one views the tax consequences of a trust. It is important to consult your tax advisor whenever contemplating a move to or from Canada.

Insight that follows you everywhere

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