2014-0517511E5 Withholding tax and deemed resident trust

Principal Issues: Specific hypothetical scenario set out where deemed resident trust receives Capital dividend and taxable dividends from a Canadian resident corporation, whether trust is entitled to claim withholding to be deemed to have been paid on account of Part I taxes.

Position: Yes... in certain scenarios... otherwise subsection 227(6)/227(7) may be available.

Reasons: 94(3)(g) -- must include an amount in income of the deemed trust in order to be applicable.

Author: Holloway, Lena
Section: 94(3); 104(6); 227(6); 227(7); 215

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                                                                                                                                               2014-051751
                                                                                                                                               L. Holloway

February 25, 2015

Dear XXXXXXXXXX:

Re:  Dividends received by a Trust Deemed to be Resident in Canada

This is in response to your correspondence dated January 13, 2014 wherein you requested our views on the interpretation of the non-resident trust rules.  Unless otherwise stated, all references to a statute are references to the provisions of the Income Tax Act, R.S.C. 1985 c.1 (5th Supp.) as amended to the date hereof (the “Act”), and every reference herein to a Part, section, subsection, paragraph or subparagraph is a reference to the relevant provision of the Act.

Your email posed several questions relating to the hypothetical scenario as follows:

1.    An individual (“Ms. X”) previously settled a discretionary family trust (the “Trust”).
2.    Ms. X has been the sole contributor to the Trust.
3.    Ms. X and her spouse are the only remaining beneficiaries of the Trust.
4.    Both Ms. X and her spouse are residents of Canada.
5.    The Trust is a non-resident of Canada and resides in a jurisdiction with which Canada does not have an income tax treaty.
6.    The Trust is the sole shareholder of a Canadian corporation (“Canco”).
7.    The Trust is deemed to be resident in Canada by virtue of paragraph 94(3)(a).
8.    The Trust is not an electing trust as defined in subsection 94(1).

You then stated that if Canco pays a dividend to the Trust (the “Dividend”), it will be required, by virtue of subsection 215(1) and subsection 212(2) to withhold and remit to the Receiver General 25% of the gross amount of the Dividend.  If the Dividend is included in the income of the Trust, paragraph 94(3)(g) entitles the Trust to treat such amounts as being withheld on account of its liability for tax under Part I. 

It is your understanding that while dividends paid to non-residents should attract withholding tax, as this scenario involves a Canadian resident corporation paying dividends to a deemed Canadian resident trust, which in turn allocates and pays those amounts to a Canadian resident individual, the withholding taxes should, in some way not be permanent.

Question #1

If the Dividend is not included in the income of the Trust (a capital dividend, for example) it would appear that paragraph 94(3)(g) does not apply and the Trust cannot treat the amount as being paid on account of its Part I tax liability for the year. Is this correct?

Question #2

If the answer to Question #1 is affirmative, is there another provision in the Act that would enable the Trust to obtain a refund of the withholding tax paid.  Given that the Trust is deemed by virtue of subparagraph 94(3)(a)(viii) not to be liable to pay Part XIII taxes in respect of amounts paid or credited to it, would subsection 227(6) be applicable such that the Trust could request a refund of the taxes withheld by filing Form NR7-R within the appropriate time period?

Question #3

If the Dividend is taxable to the Trust, but the Trust pays the amount to Ms. X and claims a deduction pursuant to subsection 104(6) of the Act, can the Trust still treat the amount as having been paid on account of its Part I tax liability for the year?

Question #4

If the answer to question #3 is negative, is there any other provision in the Act that would enable the Trust to obtain a refund of the withholding tax paid?  As noted in Question #2 above, could subsection 227(6) of the Act apply to the Trust in the circumstances?

Our Comments

This technical interpretation provides general comments about the provisions of the Act and related legislation (where referenced). It does not confirm the income tax treatment of a particular situation involving a specific taxpayer but is intended to assist you in making that determination. The income tax treatment of particular transactions proposed by a specific taxpayer will only be confirmed by this Directorate in the context of an advance income tax ruling request submitted in the manner set out in Information Circular IC 70-6R6, Advance Income Tax Rulings and Technical Interpretations.

Response to Question 1

As stated in the Department of Finance Explanatory Notes to subsection 94(3) Liabilities of non-resident trusts and others (EN October 2012 [S.C. 2013, c. 34 (Bill C-48)]):

“Paragraph 94(3)(g) of the Act applies when a person withholds and remits Part XIII tax in respect of an amount paid or credited to a trust that is deemed resident in Canada under subsection 94(3). In these circumstances, the amount remitted is deemed to have been paid on account of the trust's Part I tax for the year to the extent that the amount paid or credited to the trust has been included in its income under that Part for the year.”

As paragraph 83(2)(b) provides that no part of the capital dividend “shall be included in computing the income of any shareholder of the corporation”, we agree with your interpretation that paragraph 94(3)(g) does not apply and the Trust cannot treat the amount as being paid on account of its Part I tax liability for the year.

Response to Question 2

Generally, subsection 227(6) provides for a refund, upon application, of Part XIII tax paid to the Receiver General on behalf of a non-resident person where the non-resident was not liable to pay that tax or where the amount paid exceeded the amount that the non-resident was liable to pay.

Where subsection 94(3) applies to a non-resident trust for a taxation year, the trust is deemed to be resident in Canada throughout the year and subparagraph 94(3)(a)(viii) provides that for the purpose of determining the liability of the trust for tax under Part XIII, the trust is exempt from Part XIII tax on amounts paid or credited to it.  Given this exemption, an application for a refund of taxes withheld under subsection 227(6) may be appropriate in certain circumstances.  Subsection 227(6) would allow the Minister of National Revenue to apply the amount of that refund to any payment that the non-resident person is liable, or is about to become liable, to pay under the Act.

Response to Question 3

Under paragraph 94(3)(g), any Part XIII taxes withheld in respect of amounts that are paid or credited to the Trust and included in its income will be treated as having been paid on account of the Trust's liability for tax under Part I of the Act.

Where a taxable dividend has been received by a deemed resident trust, the taxable dividend would be included in the computation of the trust’s income under section 3 of the Act.  Subject to subsections 104(7) to 104(7.1), subsection 104(6) would enable a trust to deduct from its income certain amounts that would otherwise be included in its income for a year and that become payable in the year to a beneficiary in accordance with the terms of the trust agreement. For an amount to be payable, subsection 104(24) states that, for purposes of subsection 104(6), an amount shall be deemed not to have become payable to a beneficiary in a taxation year unless it was paid in the year to the beneficiary or the beneficiary was entitled in the year to enforce payment of the amount.

Subsection 104(7) of the Act currently denies the deduction under subsection 104(6) to a trust of income distributions to a "designated beneficiary" of the trust (within the meaning of the definition for the purposes of section 210.3) unless the trust is resident in Canada throughout the year.

Subsection 104(7.01) of the Act restricts the amount that a trust, that is deemed by subsection 94(3) to be resident in Canada, can deduct under subsection 104(6) in computing its income in the event that the trust has Canadian-source income and makes distributions to beneficiaries not resident in Canada.

Subsection 104(7.1) is an anti-avoidance provision which provides that where it is reasonable to consider that one of the main purposes for the existence of a term, condition, right or other attribute of an interest in a trust (other than a personal trust) is to give a beneficiary a percentage interest in trust property that is greater than the beneficiary’s percentage interest in the income of the trust, no amount may be deducted under paragraph 104(6)(b) in computing the trust’s income.

Therefore where a taxable dividend received by a deemed resident trust is paid or made payable to a beneficiary and the trust is entitled to a subsection 104(6) deduction (unrestricted by the application of subsections 104(7) to 104(7.1)), given that the dividend was included in income before the optional 104(6) deduction is taken, paragraph 94(3)(g) would apply such that any Part XIII taxes withheld in respect of that dividend will be treated as having been paid on account of the trust's liability for tax under Part I of the Act.  Given that the response to question 3 was positive, we will not address question 4.

We trust our comments will be of assistance to you.

Yours truly,

Phil Kohnen
For Director
Financial Industries and Trusts Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch

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