In-Trust For Accounts have become a common way for parents and grandparents to set aside money to finance their children or grandchildren’s post-secondary education. A parent or grandparent simply opens up an account at a financial institution for the benefit of their child or grandchild for educational expenses, with no formal written trust deed in place. Over time, the account balance grows in value as the parent or grandparent continues to make contributions to the account and the income and gains accumulate. Unfortunately, tax and legal advice is not sought when a parent or grandparent sets up an in-trust for account, resulting in many tax and legal consequences.
Legally, in the absence of a written trust agreement in place, an in-trust for account is considered an invalid trust. This can have serious tax consequences on the parent or grandparent who set up the trust. However, even if an in-trust for account is considered a valid trust in some instances, many of the same tax and legal problems may still arise. These include:
- Enforce distribution: The child or grandchild, upon attaining the age of majority (which is 18 in Ontario), is entitled to enforce distribution of the account proceeds. Arguably, this is contrary to the intentions of the parent or grandparent who intended for such money to be used exclusively for the child’s education;
- Attribution rules: The attribution rules under the Income Tax Act may apply. This would result in all of the income including the capital gains earned in the account to be taxed in the hands of the parent or grandparent who contributed to the account;
- Trustee duties: The parent or grandparent still owes a duty to the child, even in the absence of a written trust agreement, which includes: duty to act in the best interests of the child, duty to not benefit personally from the money in the account, duty to comply with the prudent investor rule, duty to provide information to the beneficiaries and prepare annual tax returns, and a duty to be impartial;
- Income taxed in the trust: CRA treats any income accumulated in the account and not paid or made payable to the child is taxable in the trust at the highest marginal rates of tax, under the Income Tax Act; and
- 21-year rule: Finally, there is a deemed disposition of all capital property in the account every 21-years, resulting in a realization of capital gains or losses.
What may seem as an easy planning technique to set aside money for your child or grandchild’s education may result in grave consequences to you, as the contributing parent or grandparent. As such, if you are considering opening up an in-trust for account or have already set one up, it is important to seek the necessary tax and legal advice as soon as possible. As they say, no good deed goes unpunished, especially when we are dealing with serious and unintended tax implications.