Dealing with the 21-Year Deemed Disposition Rule in a Trust
There are broadly three options for the distribution of the trust value.
On every 21st anniversary of a trust’s life, there is a deemed disposition of the shares held by the trust. This deemed disposition would trigger a capital gain on the shares owned by the trust. To avoid paying tax on the capital gain; the trust’s shares can be distributed to the beneficiaries before the 21st anniversary date. The shares in the trust can normally be distributed to the trust’s beneficiaries without triggering tax.
When planning for trust distribution, consider whether a new trust should be set up to hold the future growth of the shares.
Options for the distribution of the trust value:
- You can distribute the value back to the generation who set up the trust – often the parents. If the intention is for the children to retain the shares, then this strategy can result in taxes being paid earlier than is necessary, as capital gains will be triggered on the parents’ passing.
- You can distribute the value to the next generation. This strategy will defer the tax to when the children dispose of the shares or pass away. The distribution of shares to the children places value in their hands and is subject to the child’s creditors. It is often advisable to have the children sign a shareholder’s agreement when they receive the shares, restricting their ability to sell or redeem their shares.
- The third option is often referred to as a synthetic trust structure. Here, the parents will hold the voting shares, but can distribute the share value in the future, amongst the children, based on different classes of shares each child will own.
This information is general. If I can assist you in your overall financial planning, please contact me at firstname.lastname@example.org, or speak to your tax advisor for specific tax advice.