The Bare Trust Debacle

In this article, we’re going to speak about the Enhanced Trust Reporting Requirements that were supposed to be reportable by March 31st, 2024, the subsequent retraction of this requirement by CRA, and the unintended consequences that impacted everyday Canadians.

To do this, we’re going to have to outline the background information and define some terms to help our readers understand what we’re talking about. We apologize for the accountanese.

What is a Trust?

A Trust is created when one person gives property to another so they can hold the property for the benefit of someone other than themself. Each of the three people described has different roles and roles can overlap. 

Although a Trust is not a distinct legal entity, they are treated as one for Canadian tax purposes.

The Roles

The people described above have different roles within the Trust structure. Some people may have additional roles, and there is another role that was not yet mentioned. They are:

The Settlor

This is the person who provides the assets to establish the Trust.

The Beneficiary

This is the person who stands to benefit from the assets held by the Trust.

The Trustee

This is the person who retains legal ownership of the Trust on behalf of the Beneficiary.

The Controlling Person

This is the person who dictates how Trust assets are allocated and distributed. They often have an additional role such as being the Settlor or Trustee of the Trust.

It’s important to understand that there can be multiple people holding the various positions, and one person can have more than one role within the Trust. A bit more on this in a moment.

Two Main Types of Trusts

The two main types of trust are a Testamentary Trust and an Inter Vivos Trust.

Testamentary Trust

A Testamentary Trust is created upon the death of an individual. When a person passes away, it can often create a Graduated Rate Estate Testamentary Trust (GRE Trust). A GRE Trust is designed to mimic the taxes that would be levied on the individual as though they are still alive. 

This is beneficial because most income earned by most other Trusts is subject to the equivalent of the highest personal tax rate, while individual tax rates are graduated resulting in less overall taxes. This helps ensure that the estate doesn’t pay a lot more taxes than the person otherwise would have.

In this situation, assets are contributed to the trust by the deceased. They are the Settlor. The Executor of the Will becomes the Trustee and the Controlling Person who manages the affairs of the Trust (the estate) until such time as the assets can be distributed to the Beneficiaries, of which, they may be included.

Note that in this example, there are multiple Beneficiaries and there is overlap between roles.  This isn’t reflective of every situation, it’s only an example. But this isn’t what we’re talking about today.

Inter Vivos Trust

An Inter Vivos Trust is pretty much any other kind of Trust.

The type of Inter Vivos Trust we’ll be speaking about today is the Bare Trust.

What is a Bare Trust?

A Bare Trust is one in which the Beneficiary has control over the Trustee’s actions with regard to the Trust. The Trustee has no power or discretion over the use of the Trust’s assets and must follow the direction of the beneficiary.

It is important to note that the Income Tax Act does not officially define a Bare Trust. This definition was created by industry experts whom we admire.

How you end up in a Bare Trust Situation

Bare Trusts can be created in a large variety of situations.  In this article, we’re only going to speak about the main things KATA saw impact the average Canadian.

Helping your Children

Often, on the advice of a mortgage agent, realtor, or banker, parents will sign onto their children’s real estate purchase in order to get a more favourable mortgage rate. This creates a Bare Trust situation.

The child often provides the assets used to purchase the property, becoming the Settlor, and is the Beneficiary of the property who exercises complete control over its use, making them the Controlling Person. 

However, the parent is on legal title to the property and assumes the role of Trustee. Under the enhanced trust reporting requirements, it is the Trustee’s responsibility to file the Trust return (T3).

It’s important to understand that although the financial professionals who provided the advice thought they were advising in the clients’ best interest, they are not tax experts. Following such advice without understanding all of the implications may result in unintended tax consequences.  

If you ever have questions about situations like this, it’s your money, it’s your right and responsibility to make sure you understand. Ask an accountant if you have tax questions, don’t ask for or take tax advice from a non-tax professional.

Helping your Parents

On the other side of the coin, we saw a lot of children assume a Trustee relationship for their parents. This could be in the form of coming on the title of their home to aid in its succession upon their passing, or, more often, being added to bank and investment accounts to help parents manage their financial affairs. This can become extremely important when elderly parents are experiencing mental or other health declines such as dementia.

Unfortunately, this inadvertently creates a Bare Trust situation.

In this circumstance, the child would be the Trustee and follows the direction of the parent in managing their financial affairs. The parent is the Settlor, Beneficiary, and Controlling person in this example. Again, this is just an example and isn’t the same in every situation.

Usually, these changes occur because it seems like a good idea to get added to accounts in order to help out, but the tax consequences are not considered.

Exemption

There is an exemption for Bare Trusts that contain less than $50,000 of cash and marketable securities. However, in most of the cases we saw, these Bare Trusts were not exempt from filing.

What Happened?

Although the Enhanced Trust Reporting Requirements were introduced in the 2018 budget, the legislative changes were not introduced until December 2022. Upon receiving Royal Assent, it was communicated by CRA that these enhanced reporting requirements would be enforced for tax year ends after December 30, 2023.

Bare Trusts follow the calendar year, meaning that Bare Trusts would be required to file their December 31, 2023 year-end T3 Trust Returns 90 days after their calendar year-end. In 2024, due to the Easter Long Weekend, this extended the due date to April 2nd, when it would have normally been March 31st.

How it Affected Accountants

Accountants had to do the research. We had to create a methodology to ensure that our clients were being asked the right questions to determine if they had a filing requirement. We had to educate our networks to make them aware of the situation, and have consultations with prospective clients to help them determine if they were impacted.

Licenses were purchased. We established workflows, trained team members, developed and distributed educational marketing materials, and most importantly, ensure we were protecting our clients.

How it Affected the Taxpayer

Taxpayers were left with a big question, “Am I impacted?” This required average Canadians to have discussions with family members with whom they may have inadvertently created a Bare Trust. 

They had to do the research to find out what they were involved in, and how much money was in the Bare Trust. This was a great deal of last-minute stress for the average Canadian to determine if they were impacted. In KATA’s experience, all of the Bare Trusts included the involvement of at least one senior citizen.

One of the biggest uncertainties that the average Canadian faced was how to file. For those who sought the assistance of a CPA, they had to pay additional fees. For those who could not afford a professional, they had to try and navigate the situation on their own.

Since this was a new reporting requirement and the industry didn’t know how much would be involved, fees varied widely and the general public had no understanding of what a fair price was. In our network, fees ranged from $300 to $3,000 per return. KATA’s fees started at $350 and went up from there depending on how much work was involved.

Scary Penalties

CRA indicated from the beginning that they would be very lenient with regard to late filing penalties for 2023 because this was the first year where the enhanced reporting requirements were being enforced. 

However, penalties still existed, and for those who paid attention and tried to play by the rules, this was a motivator to ensure they were being compliant.

The penalty for a late filing is $25 per day to a maximum of $2,500. Once the penalty is levied, interest starts accruing on top of it. From January 1st, 2024, CRA’s interest rate has been 10%.

The scary part was the gross negligence penalties. These are levied in a circumstance where the taxpayer, in this case, the Bare Trust, was aware of a filing requirement but ignored it.  These penalties are the greater of $2,500 or 5% of the asset value. 

On the average Toronto home, that could be a penalty of $50,000 or more per year, much more than the average Canadian taxpayer could bear.

Lack of Guidance

Perhaps the most disappointing part of this whole affair has been the lack of guidance from the CRA. Bare Trusts are not defined by the Income Tax Act, and CRA Call Centre Agents were instructed not to answer questions regarding Bare Trusts (at least, that’s what our founder was told when making inquiries to CRA).

A colleague of ours in the financial industry had all of their clients severely impacted by the enhanced reporting requirements. His company’s team spent hours being passed around from agent to agent at CRA because nobody was willing to answer questions, and they represent billions in assets. 

This was similar to KATA’s experience, but we were more focused on the impact on Canadian families rather than financial services companies.

March 28, 2024

Four days before the filing deadline for the enhanced reporting requirements, CRA retracted the requirement for Bare Trusts to file. This was the Thursday before the 4-day Easter Long Weekend that CRA takes off, so the next business day was the deadline day.

Although for many who had not prepared and were scrambling, this was a relief, to others who had gotten ahead of the deadline and already filed, there was frustration.

Unintended Consequences

Although CPA firms operated in good faith based upon what had been announced, in the end, nothing needed to be filed. This is a list of the unintended consequences we’ve identified from this last-minute retraction:

  • Taxpayers experienced unnecessary stress rushing to go through financial records to determine if they had a reporting requirement. This stress permeated the financial industry as taxpayers made urgent requests for records.
  • Taxpayers paid unnecessary fees for the preparation and filing of these T3 returns, and in some instances, paid taxes that they may not have been required to pay. Note that most Bare Trusts are not required to pay tax because the income is declared and taxes are paid by the beneficiaries.
  • Taxpayers registered Trusts that now need to be cared for on an ongoing basis or otherwise resolved.
  • CPA firms incurred additional licensing and training costs.
  • CPA firms incurred significant labour costs researching, consulting with clients and prospects, creating processes, training teammates, and speaking with CRA about the enhanced reporting requirements – a lot of which occurred during the busiest time of year for CPA firms.
  • CPA firms are experiencing additional friction with their clients and need to smooth things over to maintain positive relationships.
  • CPA firms will need to assist clients with deciding what to do about Trusts that were formalized and were filed based on the requirement previously issued by CRA. It is difficult to determine if this will be billable work and will vary from firm to firm. Regardless, CPA firms will incur additional costs in resolving these issues.
  • Many MP offices had to field a lot of calls from upset constituents about this matter.
  • Many CRA Call Centre employees had to deal with upset taxpayers and accountants.  The CRA wasted a lot of taxpayer money on employees who had to deal with these calls. I’m sure it was extremely stressful for the CRA agents who were involved.
  • The CRA collected a wide range of personal and private information about individuals involved in Bare Trusts that might be used to pursue other matters in the future. (This was most likely an intended consequence.)

Largely, we feel that this situation was handled very poorly and created a lot of unnecessary stress for Canadian taxpayers, accounting professionals, and CRA staff.

What’s Next?

The short answer is, we don’t know.

This blog was originally written on April 4th, 2024, one week after the retraction of the reporting requirement for Bare Trusts by CRA.  At this time, no announcements have been made by CRA about what to expect next with regard to these enhanced reporting requirements.

We don’t know if the money we spent was wasted, or if these requirements are going to pop up ahead of the next tax season. We have refunded all fees paid to us by clients, but now, we’ll need to assist those clients with unraveling what happened and determining the next steps to take.

Although it is not our intention to antagonize the CRA, feedback in a constructive manner is necessary to ensure that their future actions don’t have unintended, stressful, and painful consequences on Canadian taxpayers.

At KATA, we feel that paying your fair share of taxes is a civic duty.  We applaud efforts by the CRA to track down and punish tax evaders and recover the taxes they should have otherwise paid (plus penalties and interest, of course.)

However, new requirements need to be well thought out and implemented in an organized manner. Guidance needs to be provided to every-day Canadian taxpayers, and a two-tiered system that punishes lower income Canadians who can’t afford professional advice needs to be avoided.

Watch our social media channels for updates on what’s next for Bare Trusts. And as always, if you have questions or concerns, don’t hesitate to reach out to us.

Have you signed up to receive our monthly newsletter with blog posts, inside news and more? It’s easy to join!

* indicates required