An Inter Vivos Trust is a trust created by a person during their lifetime. As it involves a transfer of an asset or assets to the trust, it helps to avoid probate as the person no longer holds legal title to the asset at death. From an estate plan or income splitting perspective, these types of Inter Vivos trusts include alter ego or joint spousal/common-law partner trusts, Inter Vivos spousal/common-law partner trusts and family trusts.
The purpose of this letter is to discuss Inter Vivos family trusts outside of implementing one for business succession planning. Consider the following examples—husband and wife are both at the highest marginal tax bracket and are looking for ways to split income with their family without outright gifting assets to their children to ensure preservation of the assets, or grandparents want to set up an education fund for all their grandchildren, or parents want to set up a trust for their child with special needs while they are both alive. An Inter Vivos family trust could help to achieve these goals.
Any income that is not allocated to a beneficiary or beneficiaries of an Inter Vivos trust is subject to tax at the highest marginal tax rate. Therefore, tax savings would be realized if the income can be allocated to a beneficiary or beneficiaries that are at a lower income tax rate than the trust. For income to be taxed in the hands of a beneficiary, there are a couple of conditions/requirements:
The income must be paid to the beneficiary or become payable to them during the taxation year.
The income should not be subject to any income attribution rules.
For income to be paid or payable, either promissory notes must be issued, or certain payments are made to third parties for the benefit of the beneficiary if the income is not outright paid right away to the beneficiary. For income not to be subject to any attribution rules, care must be given as to how property is being transferred to the trust, and who the settlor, trustees and beneficiaries are.
As a result, proper set up is required and to be maintained annually. In addition, Inter Vivos family trusts have a deemed disposition of its assets on the 21st anniversary unless the assets are allocated to the beneficiaries before this date.
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