Since 2015, Graduated Rate Estates (GREs) have remained one of the only trusts that are entitled to marginal tax rates, and are the only trust that can choose its own tax year-end under the Income Tax Act.
An estate qualifies as a GRE provided certain conditions are met:
- the estate is within 36 months of death of the individual,
- the estate is at the time a testamentary trust,
- the estate files an estate tax return that includes the social insurance number of the deceased,
- the estate designates itself as the GRE of the individual in its first tax return, and
- no other estate of the deceased has designated itself as a GRE.
At first glance, it may appear that these conditions are easy to meet. However, it often comes as a surprise to many estate trustees that the estate fails to qualify as a GRE or loses its GRE status simply because the estate fails to be a “testamentary trust”.
Under the Income Tax Act, a testamentary trust is a trust or an estate that arose on or as a consequence of one’s death, is created by the deceased, and no other person other than the deceased has contributed to the trust or estate, except by a contribution made on or after the death of the deceased by another individual as a result of the death of that other individual. While it may be easy for an estate to qualify as a “testamentary trust”, its “testamentary” status could be easily lost if any of the following occurs:
- A living person other than the deceased or an inter vivos trust makes contributions to the estate,
- A beneficiary pays for estate expenses on behalf of the estate,
- A beneficiary pays the tax arising on a specific asset on behalf of the deceased or the estate,
- An Estate Trustee fails to make a distribution of capital to the beneficiaries, that is required under the terms of the Will,
- An Estate Trustee fails to distribute estate property to the beneficiaries once the administration of the estate is completed, and
- The estate borrows money from a beneficiary, and fails to fully reimburse the beneficiary within one year of making the payment.
If an estate ceases to be a testamentary trust as a result of any of the above-noted events occurring, then its GRE status is revoked, a year-end will be triggered immediately before the change of status, and most significantly, all income generated in the estate will be taxed at the highest marginal rates of tax on an ongoing basis.
It is therefore important for estate trustees and their solicitors to become acutely aware of the various ways in which an estate could lose its testamentary status at any given time during the three years following the deceased’s death.