The sale of a house by a spousal testamentary trust and the
purchase of a new residence in replacement of the former may result
in adverse tax consequences if all required precautions are not
taken prior to the fact.
EXEMPTION FOR PRINCIPAL RESIDENCE
When a spousal testamentary trust gains possession of a house
following the death of a taxpayer and thereafter wishes to dispose
of it, the availability of the principal residence exemption to
reduce the taxable capital gain resulting from the transfer must be
ascertained.
Furthermore, the tax act1 provides for certain
presumptions when a taxpayer disposed of a house in favour of a
spousal testamentary trust through a tax rollover upon death so the
trust can benefit from the principal residence exemption for the
years during which the deceased taxpayer owned the house.
Generally a spousal testamentary trust may benefit from the
principal residence exemption upon the sale of the house for all
the years during which the deceased taxpayer or the trust itself
owned it, to the extent that several conditions are met.
One of these conditions is that when the trust was the owner of
the residence, the residence must have been ordinarily inhabited by
a specified beneficiary, by the spouse or common-law
partner or the former spouse or common-law partner of such
beneficiary or a child of such beneficiary. A specified
beneficiary generally means any person benefi cially
interested in the trust who ordinarily inhabited the housing unit
(or has a spouse or common-law partner or former spouse or
common-law partner or a child who ordinarily inhabited the housing
unit).
Furthermore, prior to designating the house as principal residence
for the years of ownership by the deceased taxpayer while he or she
was living or by the trust itself, the trust must also ascertain
that no principal residence designation on another
property has been made in respect of these years, neither by the
deceased person or his or her family unit, nor by a specified
beneficiary or his or her family unit.
MAINTENANCE OF TESTAMENTARY TRUST STATUS
In the context of a transaction for the sale and purchase of
residences involving a testamentary trust, one must be careful not
to jeopardize the testamentary trust status of this trust,
which benefits from taxation at progressive rates.
Therefore, in order to retain its testamentary trust
status, no item of property must be contributed to the trust
otherwise than by an individual on or after his or her death and as
a consequence thereof. The trust could then lose its
testamentary trust status and related tax benefits if, for
example, it does not deal at the fair market value when acquiring
the new residence: the seller may be considered as having made a
contribution equal to the excess of the fair market value of the
property over the fair market value of the consideration paid by
the trust.
Subject to certain exceptions, the testamentary trust
status of the trust may also be lost if the trust incurs a debt or
any other obligation owed to, or guaranteed by, a beneficiary of
the trust (for example, the spouse of the deceased person) or
another person with whom a beneficiary of the trust does not deal
at arm's length.
CONCLUSION
The tax consequences of transactions involving real property
transferred by or to a spousal testamentary trust should always be
carefully reviewed beforehand in order to avoid unpleasant
surprises.
1 Income Tax Act.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
