Spousal Trusts in Alberta: How They Work and Their Tax Rules

If you are in a second marriage or a blended family, you may worry about two things at once: looking after your spouse and making sure the rest of your estate eventually reaches your children. A spousal trust is one tool people use for that.

This article explains in plain words what a spousal trust is, how the tax rules treat it, and what questions to raise with a lawyer and an accountant. Tax and trust rules are detailed, so treat this as a starting point.

This article covers the law of Alberta.

What a spousal trust is

For tax purposes, a spousal or common-law partner trust must pay the surviving spouse or partner all of its income during their lifetime, and that person must be the only one who can receive its income or capital while they are alive. It can be testamentary or inter vivos.

A testamentary trust is, in federal tax law, a trust that arose on and as a consequence of an individual's death. An inter vivos trust is any trust that is not a testamentary trust. A trust set up in a will is the usual example.

In a blended family, the idea is that your spouse receives the income, while the trust property itself is held so that it can later pass to the people you name, such as your children. How the remainder is dealt with depends on how the trust document is written.

Who counts as a spouse or partner

For federal tax, a common-law partner is someone who has cohabited in a conjugal relationship for a 12-month period.

Alberta has its own concept of an adult interdependent partner. You are one if you have lived with the other person in a relationship of interdependence for a continuous period of at least 3 years, or if there is a child of the relationship, in a relationship of some permanence, or if you signed an adult interdependent partner agreement. People related by blood or adoption can become partners only by entering that agreement. The tax definition and the Alberta definition are different, so check which one applies to your question.

The tax rollover on death

Normally a person who dies is treated as having sold their property at fair market value. A spousal trust rollover under section 70(6) of the Income Tax Act applies to property passing on death to a spouse or common-law partner, or to a trust created by will. The deceased is then deemed to dispose of the property at its adjusted cost base instead, which defers the tax.

Conditions apply:

• The spouse must be entitled to all the trust income arising before their death, and no one else may receive or use the trust's income or capital before then.
• The property must be shown to have vested indefeasibly in the spouse or trust within 36 months after death, or a longer period the Minister considers reasonable on written request.
• The spouse or the trust must be resident in Canada.

Tax while the trust runs

A trust can deduct income that became payable in the year to a beneficiary, and the beneficiary includes that amount in income. An amount is payable only if it was actually paid in the year or the beneficiary had a right to enforce payment.

For a spousal trust, the deemed sale of trust capital property at fair market value happens on the death of the spouse or common-law partner. Other trusts face a deemed disposition 21 years after creation.

A T3 return is due no later than 90 days after the trust's tax year-end, and any balance owing is due in the same 90 days. Many trusts pay tax at the highest individual rate, but a graduated rate estate is taxed at graduated rates for up to 36 months after death.

How the Trustee Act fits in

Alberta's Trustee Act applies to trusts created by will. A trust document generally prevails over the Act unless the Act provides otherwise. Some income and capital rules in the Act do not apply to certain spousal and alter ego trusts unless the trust document expressly provides otherwise. That makes the wording of the document important.

Trustees must act in good faith and in the best interests of the beneficiaries, including being impartial between classes of beneficiaries. In a blended family that duty matters, because the spouse and the children may want different things from the same trust.

What to do next

• List who you want to benefit now and who should receive the remainder.
• Gather details of your main assets and who would be spouse or partner under the tax and Alberta definitions.
• Ask a lawyer how the trust should be worded and who should serve as trustee.
• Ask an accountant about the rollover conditions, the 36-month vesting period and T3 filing.

Frequently asked questions