Background

The Department of Finance Canada has recently announced stricter trust reporting rules that will impact income tax compliance requirements for commercial real estate owners.

On November 3, 2022, the 2022 Fall Economic Statement, tabled in Parliament, confirmed that enhanced tax reporting requirements for trusts will apply to taxation years ending on or after December 30, 2023.[1] Most noteworthy about the proposed legislation is the effect it will have on income tax filings for bare trusts.

Bare Trusts

A bare trust relationship exists in a commercial real estate context when one or more entities (the “trustee”) hold real property in trust for one or more other entities (the “beneficial owners” or “beneficiaries”).

The hallmark of a bare trust is that the trustee acts solely in accordance with authorizations or directions from the beneficial owners, and the trustee’s role is similar to that of an agent. The beneficial owners of a bare trust maintain complete control over the trustee’s dealings with the trust assets. A bare trust structure is regularly used in holding title to commercial real estate.

A bare trust is a unique trust relationship, as it leaves the beneficiaries liable under contracts made by the trustee, with one exception – the sealed contract rule. According to the sealed contract rule, where a bare trustee enters into a contract under seal, the contract cannot be enforced against the beneficiaries. The exception stems from the rule that only parties to a sealed instrument may have obligations and rights under it.[2]

New Reporting Requirements

Historically, it was not necessary to disclose a bare trust to the Canada Revenue Agency (the “CRA”), and the trustee of a bare trust was only required to file an annual income tax return (T3 Return) if the trust had tax payable or distributed all or part of its income or capital to its beneficiaries.[3]

Under the new proposed legislation, most trusts are now subject to a T3 return filing requirement regardless of their activity levels. There are several notable exceptions which can be found on the Government of Canada website.[4]

The reason for this change is that the CRA is seeking information on the ownership of legal entities including the various beneficial arrangements in order to help authorities to assess the tax liability for trusts. It is also part of the broader policy to prevent tax avoidance, tax evasion, money laundering, and other misuses of corporate vehicles.

Compliance Requirements

For 2023 and subsequent taxation years, all express trusts resident in Canada, non-resident trusts (that currently already have to file a T3 return), and bare trusts will need to report the name, address, birth date (if applicable), jurisdiction of residence, and identification number of:

• trustees
• beneficiaries
• settlors of the trust
• each person who has the ability (through the trust terms or a related agreement) to exert control or override trustee decisions over the appointment of income or capital of the trust (e.g., a protector)

The reporting will take place by the trust filing a T3 Return with a new schedule that is being introduced. Further information about the new schedule will be posted on Canada.ca when it is available.

In summary, this legislation creates an obligation on most trustees to file a T3 return, even when not reporting income, and introduces a new schedule for the CRA to monitor trusts.

The new legislative penalties are significant[5] and are based on all property held by a trust in the subject year. It is important to get ahead of this legislative change and to contact your lawyers and accountants to ensure correct reporting.

FOOTNOTES

[1] New rules for trust reporting are coming for 2023 returns, Bruce Ball, FCPA, FCA, CFP, October 4, 2022

[2] Friedmann Equity Developments Inc. v. Final Note Ltd., 2000 SCC 34 (CanLII), [2000] 1 SCR 842

[3] Income Tax Act, R.S.C., 1985, c. 1 (5th Supp.)

[4] Government of Canada, “Reporting Requirements for Trusts”, Government of Canada, February 14, 2022

[5] For 2022 and subsequent taxation years, a penalty will apply if a trust that has to file a T3 return fails to do so or fails to provide the additional information about the beneficial ownership. The penalty will be equal to $25 for each day of delinquency, with a minimum penalty of $100 and a maximum penalty of $2,500. If a failure to file the return was made knowingly, or due to gross negligence, an additional penalty will apply. The additional penalty will be equal to 5% of the maximum value of property held during the relevant year by the trust, with a minimum penalty of $2,500. As well, existing penalties in respect of the T3 Return will continue to apply.

For more information , contact Shanae Soor at (416) 238-7402 or by email at  ssoor@businesslawyers.com.

The information contained in this article is for general information only and is not intended as legal advice or opinion.  Should you require any advice or assistance with this or any other issue affecting your real property or business, then please do not hesitate to contact us.

© Morrison Brown Sosnovitch LLP, 2023. All rights reserved.