If you plan your estate properly, you could save your heirs a lot of headaches. You might even decide to give things away during your lifetime.In the face of our mortality, we are all equal. And we are all taxpayers, at least for the current tax year. Ignoring the tax consequences of your death could mean exposing your loved ones to some problems. Death is not a valid excuse to avoid taxes!
When you die, Income Tax and Benefit Returns have to be filled out in your name. Employment (or business) and investment income, such as interest and dividends, must be declared. In the case of a deceased person, the gains and losses incurred from the deemed disposition of some assets have to be declared as though they resulted from a sale.
Depending on the tax bracket, the deceased's tax burden can be as high as 50% of taxable income. However, following certain RRSP and RRIF guidelines can help avoid a heavily-taxed estate.Leaving other assets to a spouse and starting testamentary trusts are good ways to leave more to your loved ones and less to the taxman, as are estate freezing and life insurance. Primary residences are subject to particular rules while assets held outside of the country require special attention.
You may even want to consider making a planned donation to a charity or to a museum.
You Can Make Donations During Your Lifetime
Making donations during your lifetime could be very advantageous for both donors and beneficiaries. However, donors must properly evaluate the capital they will need to live to avoid ending up in a precarious situation; the surplus can then be distributed in view of certain tax rules. Many people start donating assets during their life by, for example, selling their home and moving to a smaller residence.
In general, donations made while living and in death are similar; the difference is that, when necessary, income taxes are paid immediately instead of during the estate stage, but income taxes are always paid. For example, income from money given to a minor child is added to the donor's taxable income as though the donation had never been made. The same applies to donations made to a spouse.
RRSPs and RRIFs
Transfer your RRSP or RRIF to your spouse or to a dependant child (for example, a handicapped child in your care). This type of transfer is not taxed.
Transfers to minor children in your care are also a good solution; they will be taxed but at a lower rate. You could also purchase an annuity, which can be paid to them until they turn 18 years old and which will spread the taxes due over the period during which the annuity will be paid.
However, if the RRSP or the RRIF is left to children who are not your dependants, the amounts have to be added to your income.
Bequeath other assets to a spouse, directly or through a trust. This way, the spouse will not have to pay the taxes on the capital gains until the assets are disposed of or until the spouse dies. These gains would calculated in view of the fact that they were acquired at your tax cost.
Bequests in trust used to transfer liquidities and assets (stocks, mutual fund shares, immovables) can delay and reduce income taxes while protecting an estate. Fiscally, asset bequests in trust constitute an estate separate from the estate of the beneficiary. The income splitting that results is advantageous for them because it reduces the applicable tax rates.
Other benefits of testamentary trusts:
- providing for the needs of a spouse while protecting the capital that will be transferred to the children upon the spouse's death;
- naming a guardian to manage the assets bequeathed to the minor children;
- ensuring that gradually, income or capital is paid to the children;
- ensuring that assets are managed soundly by one or more competent trustees.
Estate freezing, total or partial, freezes the capital gains on your assets with no tax implications. Your family members benefit from it and you retain control of your assets. The earlier your estate is frozen, the higher your potential tax savings. However, estate freezing involves the total or partial transfer of your assets.
Paying taxes is inevitable upon death so life insurance can be useful to pay them without requiring the liquidation of assets. Buy a life insurance policy where the proceeds are payable to the estate to cover the taxes on the deemed disposition of your assets. Important fact: any life insurance product paid to a beneficiary is not taxable.
The Primary Residence
Leave your primary residence to the person who will continue to live there after your death. The disposition of a primary residence is not taxable so it remains a "primary residence" and beneficiaries can dispose of it without having to pay the taxes. In this vein, a usufruct (the use of an asset by a person other than the person who owns the property) bequest is required to allow the spouse to live there and the children to obtain ownership.
Assets Held Outside of the Country
If you own property in Florida, it may be wise to find other ways to retain ownership, such as undivided co-ownership with your spouse or through a company in order to reduce the estate taxes applicable in that state. To ensure a smooth devolution of property, it is also important to prepare a second will in compliance with the country's laws and in the language that is used there.
Donating to a Charitable Organization or a Museum
If you intend to donate to charities and museums, it is wise to plan ahead. It would be difficult to find a charity that would refuse a cash donation. However, if you want to donate an asset, it is best to advise the organization beforehand to make sure it will be accepted.
Donations to charities may be arranged through life insurance. The donor pays the premiums and the charitable organization is the policy beneficiary. If the policy is transferred to the charity during the donor's lifetime, the donor is then entitled to a tax credit for the annual premiums and for the insurance product paid upon death, which would be used to file the tax return for the year of death and if required, for the preceding year.