21-Year Rule

The 21-year rule requires that a family trust report and pay tax on accrued capital gains in its assets every 21 years, whether or not any assets have actually been sold. Under ITA s.104(4), on every 21st anniversary of the trust's creation, the trust is deemed to have disposed of all its capital property at fair market value and immediately reacquired it at that value. Any gains accrued since the trust was established — or since the last deemed disposition — become taxable in that year.

The 21-year rule exists to prevent trusts from being used as indefinite vehicles for deferring tax on capital gains that would otherwise eventually be triggered by the death of an individual owner. Without the rule, property could pass from trust to trust across generations without any taxable disposition ever occurring.

For business owners who have held shares through a family trust for a long period, or who established a trust well in advance of an anticipated sale, the 21-year anniversary can create a significant and unexpected tax event if not planned for. The standard approach is to distribute trust assets to individual beneficiaries before the 21-year anniversary, allowing the gains to be reported in the hands of those beneficiaries (and, where applicable, sheltered by their LCGE). This requires advance planning — distributions immediately before the 21-year mark may not always be feasible or tax-efficient.

See also: Family Trust, Deemed Disposition, LCGE, Estate Freeze, Attribution Rules.