Spousal Trust in a Will: When the Rollover Applies in Canada

If you are drafting a will, or administering an estate, you may see a plan to leave property in a trust for a surviving spouse or common-law partner rather than outright. The tax question is whether the deceased is treated as having sold that property at death.

The default rule can create a tax bill on the final return. A qualifying spouse trust can defer that tax, but only if the trust and the timing meet specific conditions. This article explains them in plain terms.

This article covers Canadian federal tax law, which applies in every province.

The default rule the rollover replaces

On death, a person is deemed to have disposed of each capital property immediately before death for proceeds equal to its fair market value, and the final return carries the tax, not an inheritance tax. The person who acquires the property because of the death is deemed to acquire it at that fair market value, which sets their adjusted cost base.

The gain or loss is fair market value on the date of death minus adjusted cost base, reported on Schedule 3 and line 12700 of the final return. The deceased reports it on the final return, not the beneficiaries. Gains on property the estate sells after death go on the estate's T3 return instead.

What makes a spouse trust qualify

The rollover applies to a trust created by the deceased's will that is resident in Canada, where the spouse is entitled to receive all the trust's income for life and no one else may get income or capital during the spouse's lifetime. The deceased must also have been resident in Canada immediately before death.

• The trust is created by the will, not set up separately.
• The trust is resident in Canada.
• The spouse is entitled to all the trust's income for life.
• No one else may receive income or capital of the trust during the spouse's lifetime.

These conditions are strict, so the exact wording of the trust clause matters. Have a lawyer review it before the will is signed.

The 36-month vesting requirement

The rollover applies only if the property vests indefeasibly in the trust within 36 months after death, or a longer period the Minister allows on written application. The CRA likewise says the property must be locked in within 36 months of death. In plain words, the property must be firmly settled in the trust, not still open to being redirected.

If an estate is likely to take longer, a written application for more time may be needed, and the outcome depends on the situation.

How the numbers work, and when to opt out

When the rollover applies, the usual fair market value rule does not. The deceased is deemed to dispose of the property for proceeds equal to its adjusted cost base or, for depreciable property, the lesser of capital cost and cost amount, and the spouse (or the trust, for property in a qualifying trust) takes it at that same amount. So the tax is deferred rather than removed.

Resource property and land inventory are deemed disposed of at fair market value under s. 70(5.2), with a separate spouse and spouse-trust deemed-proceeds rule that also requires vesting within 36 months.

The legal representative may elect, in the final return for the year of death, that the rollover not apply, so the regular deemed-disposition rule applies instead. The election is made property by property, and proceeds are then set at fair market value. This can be useful to use the deceased's losses, the capital gains deduction, or lower rates on the final return.

What to do next

• Have a lawyer review the trust wording against the income and capital conditions.
• Confirm the deceased and the trust were resident in Canada as required.
• Note the 36-month vesting date and ask early if more time may be needed.
• Gather the adjusted cost base and fair market value records for each property.
• Ask an accountant whether electing out for particular properties makes sense on the final return.

The CRA tells owners to keep records of fair market value on the date of death. Good records make either approach easier to support.

Frequently asked questions