Will Your Trust be Subject to a Canada Revenue Agency Audit? Are You Prepared?

Two recent Tax Court of Canada cases are extremely relevant to the use of trusts in estate and tax planning.  Combined with recent audit activity of the Canada Revenue Agency, advisors and taxpayers are wise to understand the implications of the decisions and consider how they could affect trusts that have been established or will be established.

Garron et al v. the Queen, 2009 TCC 450 (Garron)

A 2009 decision of the Tax Court of Canada has clarified that a trust is resident in the jurisdiction of the central management and control of the trust.   Previously, the residence of the trustee was generally determinative of the residence of the trust.  Since the Garron case, the place where substantive decisions affecting the trust are made will be the place of residence of the trust.  In Garron, the trustee resided in Barbados, and despite that fact, the trust was considered resident in Canada because a beneficiary of the trust who was resident in Canada was the person most involved in making substantive decisions affecting the trust.  The trustee had very little substantive control over the trust.  It was found that the “central management and control” of the trust was in Canada, and that “central management and control” is the appropriate test for residence.  An appeal is likely.   

Antle v. The Queen, 2009 TCC 465 (Antle)

The Antle trust case, of the Tax Court of Canada, also dealt with a Barbados trust.  In Antle the Tax Court of Canada determined that the trust was not validly constituted.  The Tax Court of Canada reviewed the trust with reference to the three certainties that must be present to create a valid trust:

1. certainty of intention (certainty regarding the intention to create a trust and transfer beneficial ownership of trust property, giving up control of that property);
2. certainty of subject matter (certainty regarding what property is transferred to the trust); and
3. certainty of object (certainty regarding who the beneficiaries of the trust are). 

The court questioned the certainty of intention and certainty of subject.

On a review of the evidence, the court found that the taxpayer did not really intend on relinquishing control of the property but only intended on avoiding or minimizing Canadian tax.

Mr. Antle did not truly intend to settle shares in trust with Mr. Truss. He simply signed documents on the advice of his professional advisers with the expectation the result would avoid tax in Canada. I find that on December 14th, he never intended to lose control of the shares or the money resulting from the sale. He knew when he purported to settle the Trust that nothing could or would derail the steps in the strategy. This is not indicative of an intention to settle a discretionary trust. Frankly, I have not been convinced Mr. Antle even fully appreciated the significance of settling a discretionary trust, beyond an appreciation for the result it might provide. I conclude that his actions and the surrounding circumstances cannot support a conclusion that signing the Trust Deed, as worded, reflects any true intention to settle shares in a discretionary trust.

Antle at paragraph 49

The court also found that there was no certainty of subject because the documentation of the transfer of the property to the trustee was suspect and the court found that title to the property did not properly transfer.

The court found that the trust was not a valid trust.  The court also commented that even if the trust were valid, the tax plan would have offended the general anti-avoidance rule.

Audit Activity of Canada Revenue Agency

It appears that the Canada Revenue Agency is currently undertaking audits of trusts across Canada to determine residency and question whether they are validly created.  The Canada Revenue Agency is sending out questionnaires to trustees to request information regarding the extent of their roles to determine the residency and validity of the trust.

In light of this audit activity, taxpayers are wise to review, with their professional advisors, the trusts they have established to ensure that it can be said that the trusts were validly created.

Particularly, trusts should be reviewed to ensure that:

1. Original settlement property can be located and was properly settled;
2. Trustees have sufficient power to make decisions to demonstrate certainty of intention to create a trust;
3. All property of the trust has been properly transferred to the trust and documentation supporting the transfer can be located;
4. Any promissory notes are legally enforceable;
5. The trustee, settlor,  designator (if there is one), and protector (if there is one) understand their role and the significance of their role; and
6. The effect of the 21-year deemed disposition rule has been considered.

Where a Canadian taxpayer has established an inter-vivos trust as part of their estate and tax plan, the trust should be reviewed to determine it meets the needs of the taxpayer given this recent case law.  Although both these cases involved fairly aggressive tax planning strategies utilizing trustees located in Barbados, there are significant implications for domestic,  “vanilla flavoured” inter-vivos trusts.