It’s a fact: family trusts can be complicated. You need to get proper legal and tax advice from your team of professionals before deciding to use one.
But when trusts are established as a company shareholder, they can offer some distinct benefits. A family trust can provide potential income-splitting opportunities and help reduce tax owed on capital gains.
Let’s explore these benefits in more detail.
What’s a family trust?
A trust is a legal agreement whereby a settlor (in this case you, the business owner or majority shareholder) transfers assets (a company’s shares) to a trustee who manages the assets on behalf of the beneficiaries of the trust. A family trust is a trust where the beneficiaries are your family members.
1) Reduce tax on capital gains
“The first area a family trust might help you save tax relates to capital gains,” says Herta LeMare, business advisor at BlueShore Financial. “If your company is a qualified small business corporation that passes certain tests, when you sell your shares, you’re eligible for a lifetime capital gains tax exemption of $824,117 as of 2016. Each of your family members is also eligible for this lifetime exemption.”
If your company’s common shares are owned by a family trust, the growth in their value is also held by the trust. If the trust’s shares are sold in the future, any gain in their value can then be distributed amongst the beneficiaries – each of whom may be eligible for the exemption on capital gains.
The amount of tax paid on the capital gain can therefore be limited by maximizing the exemption claimed across family members.
2) Income splitting for tax savings
The second tax-saving opportunity comes from potential income-splitting opportunities with your spouse and children. As the owner of your company’s common shares, your family trust can be paid dividends. These dividends can then be distributed by the trust to the beneficiaries, who will report them as income in the year they’re distributed.
LeMare says, “Family members in lower tax brackets, as long as they’re not children affected by the “kiddie tax” rules, will pay less tax on the dividends than those in higher brackets. They can also use their personal tax credits such as the dividend tax credit to reduce the amount of tax they pay.”
Get expert advice before you proceed
“Everyone likes to save tax,” says LeMare, “but because family trusts can be complicated and every situation is different, you should get expert advice before establishing one.”
Your lawyer, accountant and business advisor can ensure it’s in your best interest to move forward, and that the trust is created properly.