Inter Vivos vs Testamentary Trusts in Canada

A father in Calgary sets up a family trust in 2018 to hold the shares of his consulting corporation. His wife, three adult children, and his eventual grandchildren are the beneficiaries. He thinks of it as a "tax planning trust". He dies in 2026. His will leaves the residue of his personal estate — house, RRSP, non-registered investments — to a separate testamentary trust for the same three adult children. His accountant explains that both trusts now pay tax at the top federal marginal rate on any income retained in the trust, that one is a GRE only for the first 36 months, and that the existing family trust will face its first 21-year deemed disposition in 2039. The "planning" he did is suddenly a lot of moving parts.

That layered picture is what most Canadians actually inherit when they meet trusts in real life. The two trust types do different work, and the 2016 federal changes flattened most of the tax differences. The remaining differences are about timing, control, and a handful of narrow exceptions.

This guide compares them in plain English. For the bigger context, see our estate planning pillar and the pillar on wills in Canada.

What each trust is #

An inter vivos trust is, in the Income Tax Act's drafting, any trust that is not a testamentary trust. In practice, it is a trust set up by a living settlor (using a trust deed and a transfer of property) during the settlor's lifetime. The settlor can be the trustee, a beneficiary, or both, subject to the attribution rules that can pull income back to the settlor.

A testamentary trust is defined in section 108 of the Act as a trust that arose on and as a consequence of the death of an individual, including a trust created by the deceased's will and (in some cases) by court order under provincial intestacy or dependant relief legislation.^[5] The defining feature is that the trust comes into being at death, not before.

The estate of a deceased person is itself a testamentary trust under this framework — the testamentary trust category includes both the estate and any continuing trust set up by the will.

How they are taxed #

Before 2016, testamentary trusts (and estates) had a significant tax advantage: each one was taxed at graduated personal rates, the same brackets that apply to individuals. Inter vivos trusts paid flat top-rate tax.

The 2016 changes largely eliminated that asymmetry. The current rules:^[2]

• Inter vivos trusts pay tax on income retained in the trust at the top federal marginal rate. Provincial top rate applies as well.
• Testamentary trusts also pay tax at the top federal rate, with two exceptions:
  • Graduated Rate Estate (GRE) — the deceased's estate, designated as such on its first T3 return, can use graduated rates for up to 36 months from the date of death.^[1]
  • Qualified Disability Trust (QDT) — a testamentary trust with one or more beneficiaries eligible for the disability tax credit can elect QDT status annually and continue to use graduated rates indefinitely.

Income paid or payable to beneficiaries in the year is taxed in the beneficiaries' hands, not the trust's. This is the mechanic that makes inter vivos trusts still useful for income splitting in some scenarios — although the tax on split income (TOSI) rules cut sharply into that strategy after 2018.

The 36-month GRE window #

The GRE is the single most important post-2016 planning consideration for ordinary wills. While it lasts:

• The estate uses graduated rates on retained income (often saving tens of thousands of dollars in tax during administration)
• It can use a non-calendar year-end, allowing the executor to time distributions for tax efficiency
• Loss carrybacks from the GRE can offset capital gains on the deceased's terminal return
• Donations made by the GRE can flow back to the terminal or year-before-death return

After the 36 months, GRE status ends automatically. Any continuing estate or testamentary trust shifts to the top rate. The executor's tax planning effectively has a deadline.

Only one estate per deceased can be the GRE, the deceased's SIN must be reported on the T3 return, and the estate must elect the status on its first T3 filing.^[3]

The 21-year deemed disposition #

The other date that drives trust planning: most personal trusts face a deemed disposition of all capital property every 21 years.^[4] The trust is treated as having sold its assets at fair market value, paying tax on accrued gains, and reacquiring at the new cost base.

This rule prevents trusts from being used to defer capital gains indefinitely across generations. Common responses include:

• Distributing trust property to beneficiaries before the 21-year date (a rollout under s.107(2))
• Settling additional trusts to spread assets
• Using alter-ego, joint-partner, or spousal trusts where the 21-year clock is deferred until the relevant individual's death

Every active family trust ordinarily needs a 21-year review well in advance — usually starting at year 18 or 19.

Common inter vivos trust types #

The Canadian estate-planning toolkit uses a handful of named inter vivos structures:

• Family trust — discretionary trust for a defined group of family beneficiaries, often holding shares of a private corporation. Standard tool for estate freezes and income splitting (pre-TOSI).
• Alter-ego trust — settlor must be 65+, settlor is the sole beneficiary during their lifetime, no one else can receive income or capital before the settlor's death. Transfers in at cost (no gain on funding); 21-year clock deferred until settlor's death. Used for probate avoidance and incapacity planning.
• Joint-partner trust — similar to alter-ego but for couples; the settlor must be 65+ (the spouse or partner need not be), and the settlor and their spouse/partner are the only people who can receive income or capital during the survivor's lifetime. Useful where the family wants both probate avoidance and a spousal-like rollover during life.
• Spousal trust (inter vivos) — assets pass to the spouse during the settlor's life or at death; spouse is the only person who can receive income or capital during their lifetime; qualifies for the rollover under s.73(1.01) (inter vivos) or s.70(6) (testamentary, set up by will).

Common testamentary trust types #

Inside a will, the most common structures are:

• Estate — the default testamentary trust; the GRE for up to 36 months
• Continuing testamentary trust for a spouse — a spouse trust under s.70(6) that defers the capital gain on the deceased's death until the surviving spouse's eventual death or disposition
• Trust for minor children — the will pours the children's share into a trust until they reach a specified age (often 21, 25, 30), with the trustee managing distributions for support and education in the meantime
• Qualified Disability Trust — for a beneficiary eligible for the DTC, the one remaining testamentary trust type with enduring graduated-rate access

Choosing between them #

The decision rarely comes down to "trust vs no trust" first — it usually comes down to "what is the specific problem I am solving?". The right structure follows from the problem:

• Probate avoidance and lifetime control — inter vivos trust, often alter-ego (for individuals 65+) or joint-partner (for couples 65+)
• Disabled beneficiary — qualified disability trust set up by will (testamentary)
• Blended-family income to spouse, capital to children — testamentary spouse trust
• Private corporation succession — inter vivos family trust integrated with an estate freeze
• Holding inherited assets for minors — testamentary trust by will, with age-based distribution rules

For most Canadians, none of these are needed. A clear will, accurate beneficiary designations, and orderly executor information solve the problem at a fraction of the cost.

What we focus on at It's Simple Will #

It's Simple Will writes the kind of will that does the basic job well — names a guardian, names an executor, distributes the estate, and creates a simple testamentary trust for minor children where needed. Anything beyond that (alter-ego trusts, family trust freezes, complex QDT planning) is genuinely lawyer territory. The product is built to handle the 80% case correctly and to tell you, clearly, when you have crossed into the other 20%.

For wider context see the estate planning pillar and the wills pillar. Start your will at the It's Simple Will app.