Alter ego and joint spousal or common-law partner trusts (referred to here more simply as a "joint partner trust") are unique types of trusts that can provide tax savings and estate planning benefits. In the right circumstances, they can be a useful tool for estate planning purposes. In this blog, I provide a brief overview of their features and some considerations about their use. You should speak with a professional advisor for more details.
Key Characteristics
Alter ego trusts and joint partner trusts have the following key characteristics (note that for simplicity, when I write "spouse" here I also am including common law partners).
- The trust is created during the lifetime of the settlor.
In other words, the trust cannot be created by a will.
- The settlor was 65 years or older at the time the trust was created.
The "settlor" is the person who creates a trust. He or she must be over the age of 65 when creating the trust.
- During the settlor's lifetime (or the settlor and the spouse of the settlor, for a joint partner trust):
- the settlor (or the spouse of the settlor, for a joint partner trust) alone must be entitled to receive all of the income of the trust, and
- no person other than the settlor (or the spouse of the settlor, for a joint partner trust) can receive any income or capital from the trust.
For an alter ego trust, the settlor is the only person entitled to receive anything from the trust, while the settlor is still alive. For joint partner trusts, the settlor and the settlor's spouse are the only individuals entitled to receive anything from the trust while either of them is alive.
- The settlor and the trust must be resident in Canada.
A person who is not resident in Canada cannot create an alter ego trust. Furthermore, the trust must remain resident in Canada.
Generally speaking, the residency of a trust is determined based on where the "central management and control" of the trust actually takes place. Therefore, a non-resident trustee should be avoided, including, for example, a child who is not resident in Canada.
- For joint partner trusts, both the settlor and the spouse of the settlor can contribute property to the trust.
The CRA has confirmed that two spouses can create a joint partner trust by jointly contributed property to the trust (to which no one else contributes). Subsequently, either spouse can continue to contribute property to the trust.
Tax Treatment
Alter ego trusts and joint partner trusts get special tax treatment. These features are as follows:
- No taxes are paid when property is transferred into an alter ego trust.
Normally when a person transfers assets into a trust, the assets are deemed to be disposed and any accrued capital gains taxes must be paid on those assets. By default, property transferred into an alter ego trust or joint partner trust does not result in a deemed disposition (although in some circumstances, the person transferring the funds can elect to opt out of this special tax treatment and pay taxes immediately).
- The 21-year deemed disposition rule does not apply.
Normally, a trust is deemed to have disposed of all of its assets on the 21st anniversary of the trust and therefore would have to pay taxes on any accrued gains in the trust. Alter ego trusts and joint partner trusts are an exception to this rule. Instead, the deemed disposition will occur for alter ego trusts on the death of the settlor, and for joint partner trusts on the death of the survivor of the settlor and the settlor's spouse.
- The highest marginal rate applies to any taxable income generated in the trust.
This is of course not a helpful feature, and is similar to how other trusts are taxed (with a few exceptions). These trusts must pay taxes at the highest marginal rate. However, normally trust income is paid to the settlor or the settlor's spouse, and is then taxed at their respective marginal rate.
Benefits and Drawbacks
Alter ego trusts and joint partner trusts are often used for estate planning and probate planning purposes. In Ontario, probate taxes are called "estate administration tax." Because trust assets are no longer directly the settlor or contributor's property, if a will must be submitted for probate, the assets of the trust are not part of the deceased person's estate and probate tax does not need to be paid on those assets. Furthermore, because the trust continues to exist after the death of the settlor (or the settlor's spouse), a probated will of the deceased person should not be required and the assets can be accessed more quickly. Finally, it can be helpful when capacity is at issue to have an alternate trustee act instead of someone under a power of attorney.
Other benefits can include privacy (the value of an estate must be listed on a probate application in Ontario, which is technically a public document) and creditor-proofing.
However, alter ego trusts and joint partner trusts have some drawbacks and therefore may not be advisable in all circumstances. This include increased complexity — conceptually, a trust is not a straightforward concept and can be difficult to understand. There also are additional expenses associated with the trust, including the initial setup and annual tax returns that will be required. There are also some negative tax implications, such as a potential mismatch on losses being applied against gains from the settlor's personal assets and no access to the graduated rate estate rates.
If you are considering using an alter ego trust or joint partner trust or think you might benefit from one, you should talk to your lawyer or professional advisor.
A version of this article was originally published in Cidel's Wealth Management blog.
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.
