New trust reporting rules daunting, expensive if fail to file on time

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New trust reporting rules first proposed in the 2018 federal budget require most trusts to file a T3 tax and information return with expanded reporting on who the settlor(s), trustee(s) and beneficiaries of the trust are. Such requirements seem benign, but the amount of information needed to be disclosed on such people can be daunting.

Draft legislation was released that summer for comment, and the Joint Committee on Taxation of The Canadian Bar Association and CPA Canada responded (I was a contributor to such a submission). The comments received by the Department of Finance were for the most part ignored or dismissed.

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The scheduled implementation date of the new rules was first proposed to be the 2021 trust filing year, but it was twice postponed and now the 2023 taxation year will be the first year. These returns, including enhanced disclosures, are generally due April 2, 2024.

Given the long-delayed implementation date, the trust reporting rules didn’t attract a lot of attention when first proposed. Even when I would lecture or write about such new rules in the days, months and years afterwards, they wouldn’t attract a lot of interest because “that’s not happening for a ways down the road.”

A second round of draft legislation released a couple of years ago by the Department of Finance surprised the tax community by “clarifying” that it did want “bare trusts” to be subjected to these new rules as well. Originally, it was quite clear that bare trusts would be exempt.

Bare trusts are commonly used vehicles whereby one party often holds legal title for the benefit of someone else, but the trust effectively acts as an agent for the beneficiaries. Existing Income Tax Act rules make it clear that bare trusts are not considered trusts for purposes of the act and, therefore, such an arrangement is ignored when determining income tax issues.

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Bare trusts are commonly used in many routine commercial activities. For example, it might be convenient for a corporation to acquire a property and hold legal title on behalf of other investors. The other investors would ultimately be the ones who need to report any normal income tax consequences (such as reporting income or losses associated with such a property) and not the corporation since that arrangement is likely a trust arrangement and, more specifically, a bare trust arrangement.

There is no income tax mischief associated with such a routine arrangement, but the corporation in the simple example above would now need to file a T3 income tax return and report the settlor of the trust, beneficiaries and trustees.

The income tax community — and specifically the accountants who will have to fill most of the filing requirements associated with these rules — have finally woken up to how invasive and complex these new rules are, especially as they relate to the requirement to file for bare trusts.

The Canada Revenue Agency has tried to be helpful by posting information and relaxing certain penalties for bare trusts that do not file on a timely basis for the 2023 filing year, but these new requirements are still daunting.

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Most accountants are not lawyers so they have very little training and experience in determining whether a certain legal arrangement is a trust (a form of legal relationship). Accordingly, it can be difficult for most accountants to assess routine legal arrangements and determine whether such an arrangement is a trust. Even experienced accountants and many lawyers struggle with this basic determination.

The debacle that is the Underused Housing Tax also requires filers — mostly accountants — to assess legal relationships at the risk of being wrong.

To be wrong in assessing a legal relationship that is a trust can invite expensive penalties if required returns are not filed: $25 per day late to a maximum of $2,500 per trust per year, or if the non-filing is tantamount to circumstances involving gross negligence, then it will cost five per cent of the highest amount at any time in the year of the total fair market value of all property held by the trust. Ouch.

Given the vast shortage of accountants, this is one of the last things needed to be foisted on the tax community. The foot faults and errors will likely be large.

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I don’t think many in the tax community will dispute that the CRA should be able to have certain information to do its job. However, the new trust reporting rules take this a bit far in providing the government with extraneous information. It is doubtful the government will be able to make sense of all the data it will receive.

Like the Underused Housing Tax, which should soon have new filing requirements enacted into law that will greatly relax some of the requirements to file, the trust reporting rules should be rethought. In particular, the requirement for bare trusts should be scrapped in their entirety.

There are lessons to be learned when introducing massive data gathering and reporting rules that are foisted upon taxpayers and their advisers (in particular, accountants). One of the largest lessons is that how tax policy is introduced needs to change.

For decades, the implementation of tax policy has fallen under the sole purview of the finance department and it proudly states that on its website. But this is a closed system and does not involve the public unless specifically invited or “consulted” on by the department.

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It is long, long overdue to involve many more members of the public from the beginning. This would proactively introduce alternate points of view that provide common sense and a measure of practicality when introducing non-politically motivated tax legislation.

Should the introduction of tax policy be solely under the purview of the Department of Finance? No, there are better ways to introduce tax policy.

In the meantime, get professional help to determine whether certain arrangements that you might have involve a trust. If they do, you very well might have a filing requirement. If so, be kind to your accountant. They’re struggling with this mess, too.

Kim Moody, FCPA, FCA, TEP, is the founder of Moodys Tax/Moodys Private Client, a former chair of the Canadian Tax Foundation, former chair of the Society of Estate Practitioners (Canada) and has held many other leadership positions in the Canadian tax community. He can be reached at kgcm@kimgcmoody.com and his LinkedIn profile is www.linkedin.com/in/kimmoody.

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