In-Trust Accounts or RESPs?
Courtesy of Invesco, Posted 19 Feb 2015
An in-trust account has at least three key benefits that make it an excellent savings vehicle for a child’s education:
First, unlike RESPs, no maximum limit applies to what can be contributed on an annual or total basis through an in-trust account. Second, also unlike an RESP, if the child does not go on to post-secondary education, the child may use the money for any other purpose.
And finally, capital gain attribution rules that apply to an in-trust account offer some tax-saving opportunities that can be very beneficial if you’re saving for a child’s education.
Equity mutual funds realize most of their returns from capital gains, rather than dividends or interest. If you contribute to an in-trust account set up primarily to provide capital gains (either through distribution or disposition of assets), the resulting tax on capital gains, if any, may be paid by the child. And since a child will normally have a lower taxable income than an adult, less tax, if any, will be paid and more money would be available for the child’s education expenses. The income (interest and dividends) generated by the mutual fund will be taxed in the hands of the contributor.
Does the beneficiary have to be specified?
Yes. If a beneficiary is not named on an in-trust account, one of the major criteria for establishing the in-trust relationship is missing. Without a beneficiary, you can’t determine ownership or tax treatment of the account. That is why our mutual fund forms have space to identify the trustee(s) and beneficiary(ies) for every account.
How is an in-trust account taxed?
Briefly, the rules are:
All income (interest, dividends, foreign and other income) is attributed to the contributor if it was earned during a year in which the contributor was resident in Canada. The contributor must include this amount in his or her income and pay the related taxes.
If funds are provided solely from Child Tax Benefit payments or an inheritance, the income is taxed in the hands of the child
All capital gains on the account, whether from distributions from a mutual fund or sale of any assets in the account, may be taxed in the hands of the child.
The trustee is responsible for providing documentation of the source of the funds in an in-trust account and for ensuring appropriate income tax treatment. See your financial advisor for more tax details, or ask for our taxation bulletin on in-trust accounts.
What happens when non-cash assets are contributed to an in-trust account?
If you contribute or transfer assets to an in-trust account, you are considered to have disposed of these assets at fair market value on the transaction date. If the market value of the transferred assets is greater than their original cost, the contributor may be subject to capital gains tax. The trust would then be deemed to have acquired these assets at fair market value on the transaction date.
What if an unrelated party gives a gift to the in-trust account?
If the contributor deals at arm’s length with a child (i.e., is generally not related to the child, neither an aunt nor an uncle), the attribution rules described here generally do not apply. Assets would still be transferred to the account as though the contributor had sold them at fair market value and the contributor may be taxed accordingly. However, all income and capital gains may be taxed in the hands of the child.
Can you take assets out of the account?
Assets taken out of the account must be used for the child’s benefit because the trustee manages but is not entitled to the benefit of the funds.
Does an in-trust account need to be formal?
An in-trust account is an informal trust because the only document that establishes the trust relationship is the investment contract containing the in-trust account designation. To be valid, an in-trust account requires:
A contributor – The person(s) who is (are) giving a gift or contributing an asset to someone else. He or she is usually an adult blood relative.
A beneficiary – The person(s) who benefit(s) from the account assets. He or she is usually a minor blood-related child. The beneficiary, not the contributor or trustee, owns the assets.
A trustee – The person who manages an account’s assets on the beneficiary’s behalf. The trustee manages the assets until the child reaches the age of majority; the trustee has legal control over the assets, but the child owns them.
Assets –Money or other assets contributed by the contributor. In a trust relationship, someone manages assets for someone else.
In-trust accounts aren't a good idea for every investor. An RESP is a simpler option and has grants available for contributions you make. Speak to your advisor about which plan is right for you, or complementing your RESP with an in-trust account.