While on the surface it may seem as if Canada doesn’t have the same inheritance taxes seen in the States, this isn’t quite the reality. Beneficiaries of a will do not have to pay taxes on what they inherit, but the estate as a whole has to pay income tax before any inheritance is distributed. In essence, the CRA acts as if the deceased sold their entire estate the day before they died at the Fair Market Value. If the Fair Market Value of the estate is worth more than the calculated Adjusted Cost Base, 50% of the difference is taxed. This means that without creative planning, death can trigger a substantial income tax bill for an estate. Fortunately, there are tools available to Canadians to avoid excessive taxation on their estate following their death.
Transfer Property to Your Spouse. For common law or married couples, one of the easiest ways to defer estate taxes is to leave your estate to your spouse. Let’s use an example. A client has created a portfolio of different stocks, bonds, mutual funds, and real estate. Her portfolio is found to have a Fair Market Value of $1,000,000 and an Adjusted Cost Base of $400,000. The difference is $600,000, half of which is taxable. With a 45% marginal tax rate for the year of death, the income tax owed on the portfolio is $135,000. However, if the portfolio is transferred to the deceased’s spouse or common-law partner, the transfer does not trigger any immediate capital gains, and the taxes are deferred until the death of the surviving spouse or partner.
Buying in Your Child’s Name. Some affluent Canadians make the risky decision of pretending they don’t own valuable antiques, artwork, or jewelry. They leave the pieces out of their will and arrange that each piece finds its proper home without being reported for income tax or probate purpose. This is a dangerous game, as it asks your estate executor and family in general to ignore the law and purposefully evade income tax. A much simpler and legal route is to buy the artwork in your child’s name. That way they own the work, and any appreciation in the value already belongs to them.
Charitable Giving. An admirable way to spread your legacy and create lasting social impact is through charity. The government also recognizes the benefits of encouraging ultra high-net-worth Canadians to donate substantial amounts of their estate, so charitable giving has become a powerful tool to lower your estate’s tax expense. This is because the capital gains tax is completely eliminated for many donations. This donation also provides a charitable donation receipt for the Fair Market Value, which provides additional tax savings of at least 40%.
Trusts. While trusts have been used in the States and UK for many years, they are only just beginning to become popular with affluent Canadian families. Trusts are a particularly useful tool for mitigating tax because they create a unique legal relationship that maintains ownership of an asset on behalf of the beneficiary. This means a trust can prevent a surviving spouse from being placed into a higher tax bracket, and it also allows a family to continue splitting their income even after one spouse is deceased. Assets, like a family cottage, can also be placed into trusts in order to defer taxes for the next generation.
You have worked hard your entire life to create your legacy; it’s only fair that you want to pass on the rewards of your efforts to the next generation. We all understand the importance and value of taxes, but the taxes placed on ultra high-net-worth families are frequently excessive. At MacMillan Estate Planning, we help affluent Canadian families avoid this disproportionate taxation, so their assets can pass to their rightful heirs. Contact the professionals at MacMillan Estate Planning today to learn more about how our personalized estate plans include generational planning that reduces and defers tax on your estate.