Section 132.11

S. 132.1(6) generally permits a mutual fund trust to designate an amount as an addition to its income for a taxation year (provided it has not made a designation under s. 104(13.1) or (13.2)). To the extent that such additional income is allocated to unitholders (or other beneficiaries) in the trust's return for the year in respect of amounts paid or payable to them in the year, it is treated as additional trust income which was paid to them at the end of the year so that the trust may deduct the additional income under s. 104(6) and so that such additional income is included in their hands under s. 104(13).

The lesser of the designated amount and the amounts of additional income allocated to the unitholders is required to be deducted in computing the mutual fund trust's income for the following year. There are three potential limitations on this result. First, s. 132.2(8) provides that there is no such deduction where it is reasonable to consider that the designation for the preceding year "was part of a series of transactions or events that includes a change in the composition of beneficiaries under the trust." By analogy to similar questions which arise under the butterfly and s. 88(1)(d) bump rules, this exclusion likely would not be applicable as a result of normal trading in the units of the trust. Second, the incurring of losses in the year of the designation would have the effect of reducing or eliminating the amount of the additional income which otherwise could be considered to have been allocated to the unitholders, so that the deduction for the following year would be reduced or eliminated accordingly. Third, if the distributions paid or payable to the unitholders in the year do not exceed the income of the trust before the addition under s. 132.11(6), there would appear to be no ability to push out the additional income arsing under the s. 132.11(6) designaiton to them.

Thus, the general effect of these rules is that a mutual fund trust whose annual distributions exceed its income can gradually build up a reserve (by making successively larger annual designations) to shelter any large taxable capital gain, recapture of depreciation or other extraordinary item which it might realize in a future taxation year.