Trust taxation in Canada is one of the more technical areas of tax planning, yet it affects a wide range of Canadians — from families using discretionary trusts to reduce their tax burden, to estates navigating the rules following a loved one's passing. Whether you are establishing a trust, administering one, or receiving income as a beneficiary, understanding how trusts are taxed in 2025 is essential to avoiding costly surprises at filing time.
Canadian tax law recognises several distinct categories of trusts, and the type of trust determines how income is taxed, what returns must be filed, and what planning opportunities are available.
A testamentary trust is created by a will and comes into existence on the date of the testator's death. Historically, testamentary trusts enjoyed graduated tax rates, but legislative changes eliminated that benefit for most. The exception is the Graduated Rate Estate (GRE), which applies during the first 36 months following death. Outside of that window, a testamentary trust is taxed at the highest marginal federal rate.
The GRE is the estate of a deceased individual during the first 36 months after death, provided certain conditions are met — including that the deceased's Social Insurance Number is reported on the T3 return. A GRE is the only trust type in Canada that benefits from graduated personal tax rates, meaning the first dollars of income are taxed at lower federal brackets rather than the top marginal rate. This can produce meaningful tax savings during the estate administration period, and careful timing of income allocations within those 36 months is a legitimate and important planning tool.
An inter vivos trust is created during the settlor's lifetime. Unlike a GRE, all inter vivos trusts are taxed at the highest marginal rate — currently over 33% at the federal level alone, with provincial tax added on top — on any income retained inside the trust. The practical implication is that an inter vivos trust almost always distributes income to its beneficiaries, who pay tax at their own personal marginal rates, rather than paying tax at the trust level. Failing to allocate income out of the trust is one of the most common and expensive errors in family trust administration.
A spousal trust receives property from a deceased spouse or common-law partner on a tax-deferred rollover basis — meaning capital gains are not triggered on the transfer. All capital gains are deferred until the surviving spouse disposes of the assets or dies. This structure is widely used in estate planning to defer tax while preserving assets for a surviving spouse. Importantly, the 21-year deemed disposition rule (discussed below) does not apply to spousal trusts.
The family discretionary trust is the workhorse of Canadian income-splitting strategies. It is an inter vivos trust in which the trustee has discretion over how income is allocated among a defined class of beneficiaries, typically adult family members. Because the trust itself would be taxed at the top marginal rate on retained income, the objective is to allocate income to beneficiaries in lower tax brackets. This strategy is subject to important restrictions under the Tax on Split Income (TOSI) rules discussed later in this article.
Every trust that is resident in Canada and earns income must file a T3 — Trust Income Tax and Information Return. The T3 is due 90 days after the trust's fiscal year-end. For trusts with a December 31 year-end, this means the filing deadline is March 31 of the following year.
The T3 return must report all income earned by the trust and any allocations made to beneficiaries during the year. Where income is allocated and designated to a beneficiary, the trust issues a T3 slip to that beneficiary, and the beneficiary includes the designated amount on their personal T1 return — taxed at their own marginal rates. The trust then claims a corresponding deduction, effectively eliminating double taxation on allocated amounts.
Since 2023, expanded T3 reporting rules also require most trusts to file beneficial ownership information, including the names, addresses, and Social Insurance Numbers of all trustees, beneficiaries, and settlors. Bare trusts and simple family trusts that previously did not file are now required to comply. Penalties for late or non-filing are significant.
A trust acts as a conduit in Canadian tax law. Income earned by the trust retains its character — interest income is interest, dividends are dividends, and capital gains flow through as capital gains — when allocated to beneficiaries. This means beneficiaries can benefit from the dividend tax credit on eligible dividends allocated from the trust, and capital gains are included at the 50% inclusion rate (or 2/3 above the $250,000 annual threshold following the 2024 federal Budget proposals, though legislative status should be confirmed for 2025).
When income is not allocated out to beneficiaries, it is taxed within the trust at the top marginal rate — making retention of income in an inter vivos trust almost always undesirable from a tax efficiency standpoint.
The attribution rules under the Income Tax Act are a critical constraint on trust-based income splitting. Where an individual transfers property to a trust for inadequate consideration, and the beneficiaries include the transferor's spouse or minor children, income earned on that property is attributed back to the transferor and taxed in their hands — defeating the purpose of the arrangement.
Attribution to a spouse applies to both income and capital gains. Attribution to minor children applies to income only (not capital gains). Once a child reaches 18, attribution on income ceases, though TOSI rules then come into play for business-connected income. Proper structuring of the initial transfer — including the use of a promissory note at a prescribed interest rate — can prevent attribution from arising.
Perhaps the most important long-term planning consideration for family trusts is the 21-year deemed disposition rule. Every 21 years, a trust is deemed by the Income Tax Act to have disposed of all of its property at fair market value. Any accrued capital gains are triggered and taxed at that point, even though no actual sale has occurred.
For a family trust holding shares of a private corporation, a family cottage, real estate, or an investment portfolio that has significantly appreciated over two decades, this can result in a very large and unexpected tax bill. Planning to address the 21-year rule typically involves distributing appreciated property to beneficiaries on a tax-deferred rollover basis before the deemed disposition date — known as a "rollout" — so the trust no longer holds the property when the 21-year anniversary arrives.
It is worth noting that the 21-year rule does not apply to spousal trusts (the deemed disposition occurs on the surviving spouse's death instead) or to Graduated Rate Estates.
If your family trust was established more than 15 years ago, this is an issue that demands immediate attention. The team at Swift Accounting Calgary regularly works with families and their legal advisors to model the tax impact and structure timely rollouts.
The Tax on Split Income rules, commonly known as TOSI, significantly limit the ability to use a family trust to split income with adult family members who are not actively involved in the business. Where TOSI applies, split income is taxed at the highest marginal rate in the hands of the recipient — eliminating any tax benefit from the allocation.
TOSI applies to trust distributions received by adult beneficiaries who are related to an active owner of a business, unless an exclusion applies. Key exclusions include:
For family trusts holding shares of an operating company, understanding whether beneficiaries qualify for a TOSI exclusion is essential before making any income allocation. Getting this wrong results in the recipient paying tax at the top marginal rate — the worst possible outcome.
Swift Accounting works with Calgary business-owning families to review trust structures annually, confirm which beneficiaries qualify for TOSI exclusions, and document the allocations correctly on the T3 and corresponding T3 slips.
Trust taxation sits at the intersection of estate law, corporate tax, and personal tax planning. The rules are complex, the penalties for errors are real, and the planning opportunities — from GRE rate optimization to family trust rollouts before the 21-year mark — can produce significant tax savings when handled correctly. Whether you need help filing a T3, structuring a new family trust, or addressing an approaching deemed disposition, our team is ready to assist.
Contact Swift Accounting today to speak with a trust tax specialist and ensure your family's trust structure is working as efficiently as possible in 2025.
Any trust that is resident in Canada and that earned income, or that made a distribution to a beneficiary, during the tax year must file a T3 return. This includes testamentary trusts, family discretionary trusts, spousal trusts, and bare trusts. Since 2023, even trusts with no income may need to file if they hold assets and have Canadian-resident beneficiaries, due to the expanded beneficial ownership reporting requirements. The T3 is due 90 days after the trust's fiscal year-end.
Every 21 years, the Income Tax Act deems a trust to have sold all of its assets at fair market value, triggering capital gains tax on any appreciation. The most common strategy to avoid this is a "rollout" — distributing the appreciated assets to adult beneficiaries at cost (on a tax-deferred basis) before the 21-year anniversary arrives, so the trust no longer holds those assets when the deemed disposition occurs. This requires advance planning, typically coordinated with a tax advisor and a lawyer, and should begin well before the 21-year mark.
Yes, but with important limitations. The TOSI rules introduced in 2018 restrict the ability to distribute business income from a trust to adult family members who are not meaningfully involved in the business. If TOSI applies, the income is taxed at the highest marginal rate in the recipient's hands, eliminating the benefit. Income splitting through a family trust remains effective where beneficiaries qualify for a TOSI exclusion — for example, because they own at least 10% of the business or work 20-plus hours per week in it.
A spousal trust receives assets from a deceased spouse on a tax-free rollover basis and defers all capital gains until the surviving spouse dies or the trust disposes of the assets. Income earned inside the trust is generally taxable either to the trust or to the surviving spouse, depending on how it is allocated. Spousal trusts are not subject to the 21-year deemed disposition rule — the deemed disposition instead occurs at the death of the surviving spouse — which makes them an attractive long-term holding vehicle for appreciated assets.
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