REVENUE CANADA TAXATION INTERPRETATION BULLETIN NUMBER: IT-389R DATE: August 30, 1985 SUBJECT: INCOME TAX ACT Vacation Pay Trusts Established Under Collective Agreement REFERENCE: Paragraphs 149(1)(y) and (k) (also section 5 and paragraph 18(1)(a)) This bulletin cancels and replaces IT-389 dated August 15, 1977 since paragraph 149(1)(y) was made effective for the 1972 and subsequent taxation years. 1. The federal government and all of the provinces and territories have passed legislation providing for the payment by employers of salaries or wages to employees (other than those excepted by the legislation) for periods while the employees are on vacation. 2. Collective agreements between an employer (or an association of employers) and employees (or their labour organization) may require the employer to make periodic contributions to a trust on account of vacation credits earned by individuals. The amount of the contribution is determined by the agreement as revised from time to time but must meet any minimums established under the relevant legislation. Under the terms of a typical vacation pay plan the trustees manage the trust property and make payments at specified or determinable times to individual employees on account of vacation credits accumulated by them. None of the trust property, whether as to capital or income, may become payable to employees before the time determined under the plan for making payments to them. 3. Paragraph 149(1)(y) applies to a trust established pursuant to the terms of a collective agreement between an employer or an association of employers and employees or their labour organization for the sole purpose of providing for the payment of vacation or holiday pay. No part of the property of the trust, after payment of its reasonable expenses, may be available after 1980 or be paid after December 11, 1979, to any person (other than a tax-exempt labour organization as described in paragraph 149(1)(k)) otherwise than as a consequence of being an employee or an heir or a legal representative of the employee. As the sole purpose of such a plan must be the payment of vacation or holiday pay, amounts paid into the trust will normally be disbursed by the trustee no later than in the year following receipt. 4. After 1979, a vacation pay trust that does not meet the requirements of paragraph 149(1)(y) falls within the employee benefit plan definition contained in subsection 248(1). The tax result to the employer, employee and trustee of an employee benefit plan is explained in IT-502. Prior to 1980, such a trust was subject to the provisions of subdivision k of Division B of Part I of the Act. Tax Result to Qualifying Trust 5. No tax is payable under Part I on the income of a trust that meets the conditions described in 3 above. However, pursuant to subsection 204(1) of the Regulations, the vacation pay trust is still required to file a T3 Information Return and Income Tax Return each year and should indicate thereon that it is non-taxable under paragraph 149(1)(y). Tax Result to Employer under Qualifying Trust 6. An employer who computes income on an accrual basis may claim a deduction for employees' vacation pay credits for the period in which the liability arose even though payment to the trust is not made until after the end of the period. Withholding on account of tax, Quebec or Canada Pension Plan contributions and unemployment insurance premiums is required at the time the payment is made to the trust as though the amounts had been paid directly to the employees. Whether it is the net amount after deductions which is paid into the trust, or the gross amount with the prescribed deduction being withheld from regular pay, is determined by the provisions of the plan. In either event the employer includes the gross vacation pay contributions made during the year in respect of each employee as an element of gross wages on forms T4 Summary and T4 Supplementary. Tax Result to Employee Under Qualifying Trust 7. An employer's contributions to the trust in respect of vacation credits of a particular employee are included in the employee's income in the year during which the contribution is made. Subsequent payments by the trust out of those contributions are received by the employee free of tax. 8. Amounts received by an employee out of income of the trust are brought into income as vacation pay since they are received by virtue of the employment contract and no payments other than vacation pay may be made to an employee if the trust is to remain qualified under paragraph 149(1)(y). The source of the trust funds used to pay such amounts does not affect this characterization and the trust is required to withhold amounts on account of income tax and to file the related T4 information returns (rather than forms T3 Supplementary) in respect of the amounts paid. Such payments might be made where vacation pay is ordinarily met in part out of income earned by the trust or where an employer (through bankruptcy) fails to make contributions to the trust for employees' vacation credits earned. Other Arrangements 9. Where the collective agreement provides that the employer make contributions to an entity other than a trust, for example, a custodian, the vacation pay plan is an employee benefit plan subject to the tax consequences outlined in IT-502. 10. Where the employer pays vacation pay directly to employees, whether or not pursuant to a vacation pay plan under a collective agreement, such payments are included in gross compensation and, if deductible by the employer, are deductible in the year paid to or earned by the employees. An employee includes such amounts in income from an office or employment in the taxation year in which they are received. As a component of gross compensation, vacation pay is subject to income tax withholding at source, Quebec or Canada Pension Plan contributions and unemployment insurance premiums and is reported in forms T4 Summary and T4 Supplementary as part of "Total Earnings".