Despite the objections of The Canadian Bar Association (CBA),
the Chartered Professional Accountants of Canada (CPAC) and the
Society of Trust and Estate Practitioners (STEP), the 2014 Federal
Budget introduced legislation to eliminate the graduated rate of
taxation for testamentary trusts. Exception is made only for
ongoing trusts of individuals who suffer from mental or physical
impairment and qualify for the disability tax credit (DTC).
The CBA, CPAC and STEP submissions highlighted that these
changes will negatively affect seniors, small business owners,
middle class families, and perhaps most importantly individuals
with disabilities who do not qualify for the DTC.
Top rate taxation of trusts for disabled individuals
The 2014 Budget confirmed that graduated rate taxation will be
eliminated after 2015, except for estates for the first three years
after death. Income of a testamentary trust will now be taxed at
top marginal rates of taxation. The current rate of 20 per cent
will increase to almost 50 per cent in Ontario.
DTC-eligible individuals protected
Testamentary trusts for those who qualify for the DTC will
continue with graduated taxation. The Income Tax Act (the
Act) is structured to ensure tax fairness for various groups of
disabled individuals and their families. First, the DTC applies to
those who have a severe and prolonged impairment to physical or
mental functions, which significantly restricts that
individual's ability to perform a basic activity of daily
living (the DTC Group). This DTC Group is estimated to include from
498,000 to 745,000 individuals, or about 1.5 to 2 per cent of the
Other disabled Canadians get no protection
Many other Canadians suffer from mental and physical impairment
but do not qualify for the DTC (the Non-DTC Group). The Act
reflects this reality and there are several tax credits and
deductions to assist some of the individuals in this Non-DTC Group.
Examples include the Infirm Dependant Credit, the Caregiver Credit,
the Eligible Dependant Credit and RRSP rollovers.
As it is estimated that 3.8 to 4.4 million Canadians suffer from
a mental or physical impairment (11 to 14 per cent), the Non-DTC
Group includes some 3.1 to 3.9 million people. This speaks to those
who have a mental or physical impairment, a learning disability, or
an inability to manage their affairs. Many cannot earn a living or
adequately care for themselves.
The long-standing fiscal policy in Canada is to use testamentary
trusts, often referred to as "Henson Trusts," to ensure
the well being of the DTC and Non-DTC Groups. To date, these
provided long-term stability to individuals while protecting their
families' savings, and allowed individuals to continue to
qualify for provincial and federal benefits.
50 per cent tax rate or loss of disability pensions and other
Effective 2015, all of the trust income applicable to this
Non-DTC Group will be taxed at top marginal tax rates (about 45 to
50 per cent in Ontario).
The option for a trustee will be to distribute and tax that
income in the disabled individual's hands, resulting in the
loss of important benefits for the disabled individual. Examples of
benefits affected are:
dollar-for-dollar loss of disability benefits such as the
Ontario Disability Support Program (ODSP)
increases in "rent-geared-to-income," which in
Ontario (for example) is 30 per cent of taxable income
clawback of tax benefits for the individuals and family members
(e.g., refundable medical expense supplement, working income tax
benefit, HST credit, Ontario Trillium benefits, child tax
benefits), which can in many cases range from 30 per cent to as
high as 110 per cent of the income inclusion
The preferred beneficiary election generally will be of no
assistance. It allows income to be taxed in the beneficiary's
hands without any entitlement to that income. If applicable, the
income arguably should not affect provincial benefits. This
election will not apply to the vast majority of circumstances, and
in any event it results in the clawback of all tax benefits.
The changes will therefore cause serious harm to the Non-DTC
Group. Families will face either paying tax at almost 50 per cent
or the loss of benefits that in some cases will far exceed the
income in question.
These results are neither reasonable nor fair. We hope the
federal Department of Finance and the provincial authorities will
review the submission of the CBA, CPAC and STEP and reconsider
these amendments to the testamentary trust rules so that they
better reflect the needs of the Non-DTC Group. Contact your Collins
Barrow advisor for more information.
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.
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