An income trust is an ownership vehicle for certain assets or businesses. In very general terms, a trust is an arrangement under which a trustee holds property for the benefit of other persons (i.e. beneficiaries). The exercise by the trustee of its duties and powers under the trust is subject to fiduciary and statutory obligations.

Income trusts typically raise funds by selling units in the trust to public investors (i.e. unitholders). The unitholders are the beneficiaries of the trust, and their units represent their right to participate in the income and capital of the trust. Income trusts generally invest funds in assets that provide a return to the trust and its beneficiaries based on the cash flows of an underlying business. This return is often achieved through the acquisition by the trust of equity and debt instruments, royalty interests or real properties. The trust can receive interest, royalty or lease payments from an operating entity carrying on a business, as well as dividends and a return of capital.

While the example in Figure 1 uses a corporation as the operating entity, the income trust may also use an operating trust or a limited partnership as the operating entity.

Figure 1: Income Trust structure

There are three primary types of income trusts:

• Business income trusts - typically acquire all or substantially all of the issued equity and debt of an operating entity. Under a common business income trust structure, the trust earns income primarily from interest payments received on the debt of the operating entity. Business income trusts are used in many sectors, such as manufacturing, food distribution, and power generation and distribution.

• Energy trusts - earn royalty income from resource properties through a royalty interest, or earn primarily interest income through the holding of equity and debt of an operating entity.

• Real Estate Investment Trusts (REITs) - generally acquire income-producing real property and earn income leasing the property to an operating entity, or earn primarily interest income through the holding of equity and debt of an operating entity.

In a typical income trust structure, the income paid to an income trust by the operating entity may take the form of interest, royalty or lease payments, which are normally deductible in computing the operating entity’s income for tax purposes. These deductions can reduce the operating entity’s tax to nil. The trust in turn, "flows" all of its income received from the operating entity out to unitholders. The distributions paid or payable to unitholders reduces a trust's taxable income, so the net result is that a trust would also pay little to no income tax. The net effect is that the interest, royalty or lease payments are taxed at the unitholder level. A real estate investment trust or REIT (rhymes with treat) is a tax designation for a corporation investing in real estate that reduces or eliminates corporate income taxes. ...

In addition to the tax advantage, the other main attraction of income trusts is their ability to generate constant cash flows for investors. Each income trust has an operating risk based on its underlying business. They are especially useful for financial requirements of institutions such as pension funds. Investment is a term with several closely related meanings in finance and economics. ... Institutions are organizations, or mechanisms of social structure, governing the behavior of two or more individuals. ... A pension (also known as superannuation) is a retirement plan intended to provide a person with a secure income for life. ...