The CRA recently began an initiative to consolidate the information provided in its income tax interpretation bulletins and income tax technical newsletters. The new publications are called “folios”. As each folio is released, it is subject to a three-month comment period. In late September, the CRA released “S6-F2-C1-Disposition of an Income Interest in a Trust”, which, among other things, summarizes the tax consequences of a disclaimer, release or surrender.

A disclaimer, release or surrender can be a helpful tool to alter a trust. For example, a parent who is given a life interest in a trust may wish to disclaim the interest, in hopes that his or her children, as capital beneficiaries, will receive the trust property sooner. At other times, execution of a disclaimer may be an effective way to “cure” a tainted spousal trust. The law in this area is complex, sometimes conflicting and evolving.

Many factors go into determining the ultimate effect of a disclaimer, release or surrender. The CRA folio is an updated and helpful resource for assessing one of these factors. This blog post and my next on November 5 will summarize some of the tax consequences of disclaiming, releasing or surrendering an interest in a trust.

It is the CRA’s position that, in order for a person to disclaim an income interest in a trust, it must be the case that:

1. The disclaimer is executed at the time the taxpayer becomes aware of the interest or at a reasonable time thereafter;
2. The person has not accepted any funds from the trust in respect of his or her income interest at the time the disclaimer is made;[1] and
3. The disclaimer is not made in favour of another person.

A disclaimer is a refusal to accept a gift. The taxpayer is considered to have never received the interest. The disclaimer is therefore not a disposition by the taxpayer and accordingly it is not necessary to include the fair market value of the interest in the taxpayer’s income.

It is sometimes important that the disclaimed property be considered to have been transferred “as a consequence of death” (e.g. where a disclaimer is used to fix a tainted spousal trust). Subsection 248(8) provides that a disclaimer, release or surrender of property gifted under the Will of the taxpayer or on the intestacy of a taxpayer will be considered to have been made as a consequence of the taxpayer’s death only if the disclaimer is made within 36 months of the taxpayer’s death (unless ministerial consent is obtained for an extension of this period).

Although not mentioned in the folio, the CRA has in the past indicated that the principles regarding a disclaimer, release or surrender of an income interest in a trust apply equally to a disclaimer, release or surrender of a capital interest in a trust.[2]

[1] The CRA’s second requirement, that the person has not accepted any funds from the trust, appears to be in conflict with the current state of the common law in Ontario. In the Ontario Court of Appeal decision of R. v. Coulson, 16 OR (2d) 497 (1977), a taxpayer was permitted to make a partial disclaimer of her income interest in a trust, despite already having received income payments from the trust. However, this decision was highly criticized for departing from the traditional rule that a disclaimer is only possible before a gift has been accepted.

[2] IT-385R2. See also 2006-0196501R3.