New trust reporting and disclosure rules are coming

This article appears in the March 2020 issue of Advisor’s Edge magazine. Subscribe to the print edition, read the digital edition or read the articles online.

The global move toward greater transparency to combat money laundering and tax evasion is coming to Canada next year, with new filing requirements for trusts.

As part of the Canadian government’s efforts to ensure the effectiveness and integrity of the Canadian tax system, new income tax rules requiring trusts (with limited exceptions) to provide additional information to the government will come into effect.

Unlike corporations, trusts were traditionally considered private vehicles outside the public domain whose information didn’t need to be disclosed.

The new rules mean the idea of a “private” trust will slip from the vernacular in 2021, as the government gains information on trusts they never had before.

The rule change was announced in the 2018 federal budget to help the Canada Revenue Agency assess the tax liability for trusts and their beneficiaries, the budget document said.

Trusts that had no reporting and disclosure obligations because they had no income will now be required to file a T3 trust income tax and information return. The change will impact many taxpayers and require that they, and their professional advisors, understand the new rules.

Trusts that hold a cottage, residence or U.S. vacation home, for example, as well as trusts that hold private company shares as part of an estate freeze, are caught by the new rules and will now have to file a tax and information return — even when they receive no income.

The information that must be disclosed for all trusts will include the name, address, date of birth (if applicable) and tax identification number of the settlor, trustees and beneficiaries, as well as anyone with the ability to exert influence over trustee decisions, such as a protector. Clients will face additional costs to prepare the returns, particularly in the first year, when the information must be gathered.

Failure to report comes with shockingly high penalties. If a taxpayer knowingly fails to disclose, or if there is gross negligence, the penalty is the greater of $2,500 and 5% of the highest fair market value of the trust’s assets. For a trust that holds a cottage worth $3 million, that could be a whopping $150,000 penalty.

The disclosure requirements and the need to obtain information from beneficiaries give rise to a number of privacy issues, in particular where the trust has a broad class of contingent beneficiaries who may not be aware of the trust at all or that they are included as beneficiaries.

Estate planners will have to carefully consider these more onerous reporting requirements when deciding whether to establish a trust and in designing the terms. They will also have to pay more attention to who is named as a beneficiary.

For example, alter ego trusts and joint partner trusts can be used as will substitutes. These trusts often include provisions for cash legacies, specific property bequests and the trust fund’s distribution to various beneficiaries.

Since information on the beneficiaries must now be obtained — specifically their tax information numbers — clients may decide not to use these trusts, preferring to use wills for cash legacies and other specific gifts where there is sensitivity in obtaining beneficiary information.

This year will no doubt see a lot of discussion and activity concerning the new rules. Trustees and their professional advisors will be busy winding up trusts that no longer serve a purpose, and obtaining the necessary information to meet the disclosure rules.

Margaret O’Sullivan is founder of O’Sullivan Estate Lawyers LLP.