Will Reviews – tax law has likely changed since you wrote your will eg:

  • Capital Gains Deduction is now $ 800,000, not the $ 500,000 anticipated in older wills
  • Budget proposal to tax testamentary estates at top rate after 36 months

 

 

If you have significant ownership of a private corporation

  • Change in ownership of assets.  Prescribed rate going up after Sept 30 from 1% to 2%. Maybe it is time to pro-actively move some income earning assets around?
  • Clearing out tax-free Capital Dividend Account balances simplifies estate administration.
  • Clearing out Refundable Dividend Tax On-Hand can similarly lower value of shares and lessen deemed disposition on death. However, having RDTOH in the corporation if the corporation may receive life insurance proceeds on death.
  • Does shareholders agreement permit a “spousal rollover”– thus avoiding cost limitation on using half of the tax-free CDA balance?
  • How accurately do financials reflect Paid-Up Capital vs Stated Capital?
  • When deciding corporation bonus levels consider impact of value on disposition or death

 

Testamentary Estates

As background – a deceased person recognizes any unrealized gain on the terminal return.  The estate acquires the asset at the fair market value at the date of death and any subsequent disposition at less than adjusted cost base (e.g. redemption of corporate shares) will trigger a capital loss.  Executors can elect that a capital loss in the first Estate tax year be deemed to be a capital loss of the deceased.

In one case, a residence declined in value during the first year of the estate.  The executors purported to transfer the residence to specific trusts for the beneficiaries of the estate.  Because there were multiple beneficial trusts, CRA opined that the stop loss rules would not apply if there were a disposition.  However, the executors had not registered the transfer of ownership and the subsequent sale listed the estate as vendor.  CRA concluded that there had been no disposition. No disposition in the first year, no loss to carry back.  Implementation details and timing are critical.

The “Pipeline” strategy involves paying recognizing capital gain on the terminal return {23% tax} rather than deemed dividends on share redemption in the estate (33%). Executors sell shares at the FMV as of date of death to a new corporation and take back debt approximating the FMV. When followed by an amalgamation of NewCo and the original corporation, the Amalco owes a debt to the estate and funds can leave the corporation without triggering taxable dividends. This approach has taken a knock with CRA’s success against a similar strategy used by a departing physician. However, there are still published CRA guidelines on when they will accept the “pipeline strategy” for testamentary estates.  Separately, CRAs attack is based on a wind-up of the business – and thus not relevant to many estates where the corporation continues to operate the business.

Capital Gains Deductions – or V-Day Values

Where the deceased, or a related person from whom the deceased previously acquired the shares, benefited by either a capital gains deduction the “pipeline” needs modifications to be efficient.

Estates with Non-Resident Beneficiaries

Given the diverse population in the GTA, having a testator leave at least some assets to non-resident beneficiaries is common. When estates of such testators hold a significant interest in a CCPC, the Pipeline is not an optimal scenario.   In two recent files with non-resident beneficiaries, the tax on redemption dividends triggering capital loss carryback worked out to be less than 15% (compared to the 23% on the terminal return).  In both countries, the proceeds from the estate were tax-free to be beneficiaries.

To have any scope for planning, the estate must suffer a loss for tax purposes before its first tax year-end.  If executors need to amend articles and redeem shares to create a loss – such planning must be done well before the first taxation year of the estate.

 

 “Simple” Family Trust

Moving assets to an inter-vivos trust avoids a deemed disposition on death.  However, there seems to be ample scope for error.  Back in 1992, a soon to be successful taxpayer had a large GTA law firm prepare a family trust document for his planning.  The taxpayer who settled the trust with $ 5,000 wanted to retain control.  He became one of two trustees as well as being a capital beneficiary.  That retention of control triggered anti-avoidance sections in the tax legislation- certainly because the settlor was a beneficiary likely also because the settlor was one of two trustees and thus could block any undesired action.

Assets can be distributed at tax cost base from such trusts ONLY to the settlor – not really the objective of most trusts.  The taxpayer went to court to have them retroactively change the trust deed to retroactively remove him as a beneficiary.  The court concluded that such a change would be retroactive planning and the request failed.

Similarly, Israeli tax authorities cancelled trust benefits as phony “because the individual was considered to be the settlor, and the trustee taking decisions, as well as the beneficiary.”

 

Changing/Adding Beneficiaries

CRA’s position is that when beneficiaries are added pursuant to the terms of the trust, the original beneficiaries are considered to dispose of part of their interest.  Where the person exercising the discretion is also a beneficiary – CRA would consider the addition of new beneficiaries an inter vivos gift to the new beneficiaries. In one case, the beneficiary was taxed for “selling” his income interest to his father and more recently “the Act … will tax any economic gain the income beneficiary may be able to realize on a disposition to a third party.”

The implications stemming from initial decisions are important enough that it behoves individuals to think about them enough to get them as right as possible.

 

Provided by:   Michael Fromstein, LLP,MSC, MBA, CA, TEP

                        Director of Taxation, Sloan Partners LLP             

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