Why does a trust have to file a tax return?

Some time ago I posted about the tax returns that an executor must file, including both the final return for the deceased and the trust returns on behalf of the estate. Click here to read that post. I've been asked a follow-up question, that is "why does a trust have to file a tax return?"

The simple answer is that when a person passes away, Canadian law states that a new taxpayer is created. That new taxpayer is the estate. Because the assets in an estate are temporarily held on behalf of the beneficiaries, the estate is a form of trust. A trust exists whenever one person or entity holds property or funds on behalf of another person.

Most estates are completed within a year of the deceased's passing away, unless of course there is a lawsuit to be settled or complicated business affairs to be wound down. For that year, the assets in the estate may earn income in the form of interest, dividends or capital gains. The new taxpayer - the estate - will report that income on a return just as individuals do, and pay tax on it if applicable.

In many estates, money is paid into a trust account for a minor or handicapped adult. Once the money has been paid into this trust specifically for that person, the taxpayer is this new trust, not the estate. If there are no trusts set up in a Will and the executor immediately pays out all assets to the beneficiaries, the executor may not have to file any tax returns for the estate.

My suggestion to all executors would be that you check with an accountant about whether or not you have to file a tax return for the estate. I can give you general information here, but if you consult an accountant you will have the chance to crunch the actual estate numbers and get individualized advice.