Early in my career at the bank, a haggard-looking businessman limped in to my office to begin the process of negotiating a loan to settle with his estranged spouse.
He was completely drained, emotionally and financially. The pain in his eyes alone was enough to make me want to go home and hug my wife. (I did.)
This experience was repeated several times for me. (As was the subsequent hugging.) I know there are some very good reasons to end a marriage - I learned that at home as a boy - but to these businessmen, the financial cost alone was breathtaking.
Perhaps in recognition of the financial stress of relinquishing a marriage partnership, the rules which normally apply to claw back income and nail down taxes to the higher-earning spouse, are relaxed somewhat in the case of a relationship breakdown.
These claw-back rules are called attribution rules. Below are a few of the details.
First some background:
Normally, married spouses and common-law partners are treated identically for tax purposes. Common-law partners are basically two persons who have cohabited together in a conjugal relationship for a continuous period of at least 12 months, or who are parents to a child.
The attribution rules are designed to prevent unsanctioned income splitting between spouses.
The rules attribute back to the transferor, both income (interest and dividends) and capital gains/losses earned from property transferred or loaned (except for a genuine loan) to a spouse or a trust in which the spouse is a beneficiary.
In the case of a spousal RSP, any withdrawals from the spousal RSP in the year in which a spousal RSP contribution was made or in either of the two preceding years must generally be included in the income of the contributing spouse for up to the amount of the contribution.
For any property transferred before two individuals became spouses, attribution rules will apply to the transferred property once they become spouses of each other.
Exceptions:
Attribution rules will cease to apply following the death of the transferor spouse, throughout the period in which the transferor spouse is not a Canadian resident, or following a divorce judgment or separation agreement.
Relationship breakdown:
For common-law partners experiencing a breakdown of their conjugal relationship, and for married couples following a marital breakdown but prior to a divorce, attribution rules will generally not apply to income from transferred or loaned property or to withdrawals from a spousal RSP during the period the spouses are living separate and apart as a result of their relationship breakdown.
Attribution rules for capital gains will also not apply to disposition of property occurring at any time while the spouses are living separate and apart because of a relationship breakdown if both spouses jointly elect not to have the attribution rule relating to capital gains apply.
This election can be made at any time following the relationship breakdown and will apply for the year the joint election is filed and thereafter. The election should be filed with the transferor spouse's income tax return.
Reconciliation:
The attribution rules discussed above will apply again if the spouses were to reconcile and resume their marital/conjugal relationship.
If you have any questions or require clarification of any of the issues discussed in this document, do not hesitate to discuss these with your advisor.
