Is a trust required to file a tax return where the trust’s only ‘income’ is a capital dividend?
In CRA technical interpretation 2004-0060161, the CRA addresses several issues relating to trusts and capital dividends, including whether a return must be filed by a trust that receives a capital dividend and no other ‘income’. In the technical, the CRA responded as follows:
The T3 Trust Guide summarizes when a trust should file a T3 return. Paragraph 150(1)(c) and subparagraph 150(1.1)(b)(i) of the Income Tax Act, R.S.C. 1985 (5th supp.) c. 1 (the “Act”) indicate that a trust is required to file a return for a taxation year where tax is payable for that year. Paragraph 150(1)(c) of the Act has to be read in conjunction with Regulation 204 which provides that “every person [...] receiving income, gains or profits in a fiduciary capacity, or in a capacity analogous to a fiduciary capacity, shall make a return in prescribed form in respect thereof”. Although a capital dividend does not have to be included in the trust’s income according to subsection 83(2) of the Act, the trust is required to file a return and to designate the amount of the dividend in the year that it becomes payable to a beneficiary (subsection 104(20) of the Act and page 32 of the T3 Guide).
The response is clear as far as it concerns the case where a trust receives a capital dividend and then pays it out in the same year to its beneficiaries. The CRA believes that a return is necessary because the trust must designate the dividend under subsection 104(20) of the Act.
What about the case where a trust receives a capital dividend and does not pay it out in the same year? Instead, the trust adds the amount to its capital. It may “pay the dividend” in a subsequent year by encroaching on capital. Is a return necessary in the year the capital dividend is received? A trust return should not be necessary, given the provisions of paragraph 150(1)(c) of the Act, but the technical interpretation above is not clear on this issue.