The 21-year-rule is a tax rule that affects both testamentary and inter vivos trusts. It states that the trust will be deemed to have sold its property at fair market value every 21 years. The effect of this rule is that assets, such as real estate or shares in a company, that have increased in value since the creation of the trust will be subject to capital gains tax at the end of 21 years from the date of creating the trust.
One of the main goals in any tax planning is to eliminate, defer and reduce tax liabilities. As such, prior to the 21st year of the trust, the trustees should consider distributing the property (for example the shares in the family business) to all or some of the named beneficiaries. This transfer can be done tax-free to the Canadian resident beneficiaries. However, the result is that eachwho has received property from the accrued gain and inherent capital gains tax will now have a capital gains tax liability when they sell the shares or will be deemed to have sold them on their death (subject to a possible rollover to a spouse).