ABOUT estate planning
 
The information on this website is designed to give you a broad, basic and general overview of estate planning considerations.  General rules are discussed only.  This is not legal advice, and is not to be relied upon as legal advice. There are many complexities and exceptions which exist in each particular situation which affect the outcome.  Professional assistance should be sought. 

 
Estate Planning for the Average Person

Estate planning is not just for the wealthy.  If you own a home, have savings, investments, Registered Savings Plans (“RSP’s”), or an interest in a business, there may be considerable tax savings and other advantages to your surviving spouse and children or other beneficiaries if you have an estate plan in place now.

The purpose of an estate plan is to insure that the beneficiaries you specify actually receive what you want them to receive, while income and other tax are minimized.  A proper Estate Plan will minimize taxes at the time of death, and possibly for a period of many years thereafter.

A good estate plan may also protect a disabled beneficiary from loss of government benefits due to receiving an inheritance.  It can also protect your estate from a quick and wasteful depletion by a spendthrift beneficiary or a beneficiary with a problem such as drug or alcohol abuse.

Estate Planning is planning for your survivors upon your death.  It is different from financial planning for your lifetime finances, but the two are related.

 
What assets are in your Estate?
 
You may own assets which would not form part of your estate and would therefore not pass according to the terms of your Will.  These assets include assets owned in true joint tenancy with a right of survivorship, and assets where there is a beneficiary designation such as RSPs, and life insurance.

On the other hand, assets which you own in your own right such as your car, an interest in real property which is not held in joint tenancy with anyone else, your own bank account and investments not held in joint tenancy with anyone else, would form part of your estate and would pass according to the terms of your Will.

Taxation of Estates – Capital Gains Tax
 
There is no gift tax in Canada.  However, there is a capital gains tax in Canada.

A capital gain occurs on a “disposition”.  A sale to a third party is a disposition, but it is not the only time a disposition occurs for capital gains tax purposes.  A disposition also occurs when a gift is made.  A deemed disposition occurs when someone dies.
 
Capital property includes such things as company shares and real estate. Land is the perhaps the most common capital property, although many people have shares in their own company, and many people have stock market investments in shares.  When there is a disposition of capital property, if the net sale proceeds are greater than the adjusted cost base, then this is a capital gain.  Although a principal residence (the house and a limited amount of land) is exempt from capital gains tax, other capital gains must be declared.  The way the tax is applied is that the difference between the net sale proceeds and the adjusted cost base is considered to be the capital gain, and one half of the gain is included in the income of the person who made the disposition in the year that the disposition was made.
 
There is another aspect of a disposition of capital property and tax which is important to know.  Capital property can be transferred to a Canadian resident spouse without the transfer being considered to be a disposition and without triggering the capital gains at that time.  Although it can be possible to elect out of the rollover, so that the disposition is taxable, when a rollover occurs, the recipient spouse acquires the property at the adjusted cost base of the transferor spouse, so the tax on all of the gain is deferred until the recipient spouse disposes of it, either by sale, gift or death.  This is referred to as a “rollover”, and specifically as a “spousal rollover”.
 
Upon death, all the capital property of the deceased is deemed to have been disposed at its fair market value at the time of death unless there is a spousal rollover.  If the surviving spouse is entitled to receive the capital property, then there is a rollover to the spouse, capital gains tax is deferred until the surviving spouse disposes of the capital property, and the surviving spouse inherits the deceased spouse’s cost base.

Upon the death of the second spouse to die, however, there is no further rollover, and there will be capital gains tax on capital property which is not an exempt principal residence.  In some cases the capital gains tax exposure can be quite significant.  For example, where portfolio investments containing shares, or real estate, are owned by the deceased and have gone up in value substantially since the time of acquisition, then there will be taxable capital gains.

Capital gains tax arising on death can present a cash shortage problem.  Sometimes people plan for this by buying life insurance to fund the tax.  Sometimes a charitable donation can lessen or eliminate the tax, but this of course means that the donation goes to a charity, and not to family or other beneficiaries.  Planning for dealing with capital gains tax on death is important.

It is to be noted that you can gift non capital property without triggering disposition tax or gift tax as there is no gift tax in Canada.  You can give away money, for example.  Money is not capital property, and if it is gifted during your lifetime, or through your will, it attracts no capital gains tax.

What Does an Executor Do
 
When someone dies, the Executor is responsible to preserve and protect assets, pay all bills, including taxes, and to liquidate assets as appropriate.  The Executor must ensure that the income taxes to the date of death are reported and paid.  The tax return for the date of death would include all of the income to the date of death of the deceased for the year during which the death occurred.  This income could be from all the usual sources, for example from employment income, from interest, from dividends, from pensions, and so on.  It must also include one half of any capital gains on capital properties deemed to have been disposed of at the time of death (excluding an exempt principal residence), even though these properties were not actually sold.

The Executor uses estate assets to pay the debts and income tax of the Estate, and the income tax could include capital gains tax.  Once debts and taxes are paid, the Executor can then distribute the remaining estate to the beneficiaries.  At this point the beneficiaries receive their share of the remaining estate without further income tax.  The tax at that point has been paid by the Estate through the Executor.  Each beneficiary then becomes the owner of his or her share of the residue of the estate, and thereafter to the extent his or her share earns income, the beneficiary must report that income each year on his or her tax return.

 
Taxation of Estates - Testamentary Trusts
 
Perhaps the single most important estate planning tool is the testamentary trust.

A trust set up during someone’s lifetime is not taxed at graduated rates, but is taxed at the top rate of about 44% for every dollar of trust income.  A testamentary trust is taxed, just as an individual is, at graduated rates, which start at about 21% and go up to a maximum of about 44% as taxable income reaches a certain level.
 
A Testamentary trust is created on and as a consequence of the death of a person.  No one other than the deceased must have contributed to the trust. Testamentary Trusts are most commonly found in Wills, but they can be created by Insurance Trusts and trusts for RSP proceeds.

It is common for spouses to make Wills at the same time where each Will sets up a testamentary trust for the surviving spouse.  Therefore, when the first spouse passes, the second spouse can receive his or her share of the estate of the deceased spouse (often all of it) in trust for himself or herself.  The surviving spouse may be the trustee and has complete control of the trust funds if the Trustee is given broad discretion and power in the Will, as is usually the case.

However, because the surviving spouse holds these funds separately in a trust which is a testamentary trust, the income which is earned on the assets of the trust year after year thereafter is taxed at graduated rates.  The trust files its own tax return, as does the surviving spouse.  Therefore, even after the death of the first spouse to die, there are still 2 tax returns, both taxed at graduated rates.  The benefit of graduated taxation rates is doubled, and yet the surviving spouse can still have complete control over the trust funds.
 
It should be noted, however, that with respect to testamentary trusts for surviving spouses, it is only assets which go through the estate which can get into spousal trusts.  Joint tenancy assets or designated beneficiary assets do not go through the estate, are not covered by the Will, and therefore do not get in to the spousal testamentary trust for the surviving spouse.  Sometimes spouses actually sever joint tenancy assets, and take steps otherwise to ensure that they hold about half each of their estate together in their own name.

What about the children of the Spouses when both spouses are gone? If the children were to receive their share of the estate through testamentary trusts rather than as a direct gift, then the same income splitting advantages apply as in the case of the testamentary trust for the surviving Spouse.  Each child would have 2 tax returns to deal with, one for his or her own personal income, and the second tax return for the income earned on the assets in the child’s Testamentary Trust. The benefit of graduated rates for both the child’s income and the trust’s income would therefore also apply.

Furthermore, as in the case of the spouse and the spouse testamentary trust, each child can be his or her own trustee and have complete control of the child’s testamentary trust in each case.

In addition to the fact that testamentary trusts are taxed at graduated rates, there is another income tax planning advantage relating to testamentary trusts for adult children. The parent making the Will can specify that the beneficiaries of the child’s trust are that child, and the issue of that child, meaning the children of the child and the grandchildren and so on.  The spouse of the child and even the spouses of the issue can also be named as potential beneficiaries.

Because the child in each case can be the Trustee having complete control of the fund, the child as Trustee is the one who has the discretion to say which beneficiary or which of the beneficiaries of the trust ever receive anything.  The child can keep all of the capital and interest for himself or herself, and that is completely within his or her discretion.
 
However, in cases where the child’s children (grandchildren of the parent making the will) might not have any income or much income of their own, and where they have a need for money such as where they are taking post secondary education, then some of the interest or other income earned by the child’s testamentary trust can be diverted to that particular grandchild who would then be required to bring that income into his or her income.  The grandchild may pay little or no tax on it because of lack of other earnings or modest earnings otherwise, and because each individual is entitled to a basic personal exemption of almost $10,000.00. When the grandchild pays the tax on that income, then the trust itself does not have to pay any tax on it.  Only one person, either the trust or the beneficiary who received the income, must pay the tax on that income.


Trusts Help to Protect Assets

If there is an adult child who has a disability, then a testamentary trust for the child can be set up so that it would not prejudice the government assistance.  Money can be selectively paid out of the trust for the benefit of the disabled child by the trustee, in the trustee’s discretion.

If there is a child who is a spendthrift, or has a drug or alcohol abuse problem, then the trust can be set up whereby the trustee is not also the beneficiary of the trust.  For example, one of the other adult siblings of the child with the problem can be the trustee, or a trust company or some independent third person can be the trustee.

Insurance Trusts
 
Testamentary trusts that receive graduated tax treatment can also be created by trusts set up to receive life insurance proceeds or RSP money.  These trusts can be set up in a Will, but may also be set up by a separate trust document.  The trust which is set up must take effect upon death and not be funded until death and then as a consequence of the death from the life insurance proceeds or the RSP proceeds.
 
In the case of RSP money, obviously it is almost always desirable to name the surviving spouse as direct and primary beneficiary (without any trust)  in order to take advantage of the rollover of the RSP monies to the surviving spouse without triggering tax on that money.  However, upon the death of the second spouse to die, if there are any RSP monies, then the advantages of a testamentary trust to receive that money become apparent.
 
The advantages are the same as testamentary trusts created in Wills, and are similar in effect.  For example, in the case of life insurance proceeds, the surviving spouse can be the trustee, but the beneficiaries of the life insurance trust can be the surviving spouse, the children, the grandchildren and so on.  The surviving spouse would be the one who decides upon which of the beneficiaries and in what proportions any benefits from a trust are bestowed.  Because the surviving spouse could be both trustee and a beneficiary, the surviving spouse would have the complete discretion to retain all funds for himself or herself, but would also have the ability to income split with other beneficiaries.

 
Appendix

Some Basic Concepts and Tools

 
      There are some concepts and tools of estate planning that you should know about.  The following is a broad overview to give a general idea.  There are refinements and exceptions, so it is important to consult your professional advisors.  This is not legal advice.

Graduated Rates of Taxation – In Canada, we pay income tax at graduated rates.  The first dollars of income that we make are taxed at a low rate.  As we earn more and more income for the year, we are taxed at a greater percentage rate.  The starting minimum rate in British Columbia is about 21% and the maximum rate is about 44%.  Individuals reach 44% at about $120,000.00.
 

Joint Tenancy – A true Joint Tenancy is a form of ownership where two or more people acquire ownership of property at the same time having an equal interest and all being entitled to possession.  Joint Tenancy carries with it the right of survivorship such that if one of the joint tenants dies, the other joint tenant or tenants automatically become entitled to the whole interest.

      The most common example of a joint tenancy ownership is where spouses own a house together as joint tenants, or have a bank account together as joint tenants.
 
      Joint Tenancy can be a true joint tenancy as described above, or a false joint tenancy. A false joint tenancy can be created where two or more people hold an asset and it is registered in a public office or is shown in the records of an institution as owned by those persons as joint tenants, but where there is an agreement between them that the asset really belongs to one of them only, in spite of the fact that it is registered or shown in the records of the institution as jointly owned.

      An example of where a false joint tenancy is created is where an elderly parent puts her home into her name and the name of an adult child as joint tenants, but it is agreed that the parent is still the real owner, and would be entitled to all the proceeds should she sell the home.  Another example is where an elderly parent puts a bank account into her name and the name of an adult child as joint tenants, but where it is agreed that the money still belongs to the parent.  False joint tenancies are created sometimes for convenience (as in the case of the joint bank account), and sometimes to attempt to avoid probate and the time, expense and provincial probate fees that go along with probate.  Where a false joint tenancy is created, it is extremely important to document the intention of the parties at the time of its creation.
 

Probate Fees – Probate Fees are a Provincial Tax levied on the gross value of an estate at the time application is made to the Supreme Court for Probate.  In British Columbia, probate fees are about $14 for each $1,000.00 of the gross estate.  Probate Fees are chargeable on assets which are part of the estate, and are not chargeable on assets which pass by survivorship through a true joint tenancy ownership, or assets which pass by beneficiary designation such as life insurance and RSP’s.

Registered Savings Plans – Canadians are allowed to place a portion of their earned income into a Registered Retirement Savings Plan without paying tax on that sum at the time the money is contributed to the plan.  When the money is taken out, it is considered to be income in the year that it is withdrawn.

       When an RSP owner dies, either the whole amount contained within the RSP is added into the income of the deceased for the year of death or the RSP is “rolled over” to a surviving spouse and the tax is deferred until the spouse takes it out or dies.  Even though the surviving spouse will pay tax on the RSP funds, if it is taken out over a period of years by the surviving spouse, it may thereafter be taken out in amounts which do not attract as high a rate of taxation as if it were all included in income in the year of death.  Generally speaking, it is advantageous for spouses to take advantage of the spousal rollover for RSP’s because of this.

      The rollover to the surviving spouse is the most common rollover for RSP’s, but there are rollover provisions for dependants who are under 18, or who are physically dependant or mentally dependant.
 
 
Taxation of Trusts –The trustee must file a tax return for the trust. Testamentary trusts are taxed at graduated rates. However, the income earned by a trust can be paid to the beneficiary and the trustee can elect to have the income tax paid by the beneficiary and not by the trust.  Generally speaking, if the income which is earned by the trust assets is either brought into the trust’s tax return or the tax return of a beneficiary, or a combination of both, that is sufficient.  Tax is only paid on the income once in a year.

Taxation of Life Insurance Proceeds – Payment of life insurance proceeds due on the death of a person does not attract income tax on those proceeds.  Therefore, if a person dies and there is $200,000.00 life insurance policy in effect, the full $200,000.00 goes to the beneficiary without income tax.
 
      Of course, those proceeds then belong to the beneficiary and they might then be invested by the beneficiary and earn income, and that income is taxed each year in the hands of the beneficiary.  However, the initial payment of the life insurance proceeds to the beneficiary does not attract income tax.
 

Wills Variation Act – In British Columbia, the Wills Variation Act represents a significant infringement on testamentary autonomy. It allows a surviving spouse (including a common law spouse) or a child to apply to vary the terms of the will which the Court can do if it decides that adequate provision for the maintenance and support of the surviving spouse or child has not been made.  In B.C., “maintenance” is broadly viewed, and even adult children who are independent financially can sometimes qualify for a variation.
 
However, the law does not go so far as to say that all children must be treated equally.  Where a testator is concerned about a WVA Claim, then other estate planning steps can be taken to keep assets out of the estate and thus not included in assets which the Will affects and which the Court can reapportion.