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Part 3 – Strategies for Reducing Estate Administration and Capital Gains Taxes

Estate planning is not solely about ensuring your assets are distributed according to your wishes; it’s also about optimizing your legacy’s financial aspects. Two significant considerations in this regard are reducing Estate Administration Taxes and minimizing capital gains triggered by the deemed disposition upon death. It’s important to recognize that the options to achieve these goals become significantly more limited once you’ve passed away, making proactive planning essential. 

In this blog, we’ll explore various strategies to help you reduce capital gains and Estate Administration Taxes.

Reducing Capital Gains on Deemed Disposition:

Upon your passing, the Canadian Income Tax Act considers all of your assets to have been disposed of. This deemed disposition on death can trigger significant capital gains taxes on appreciated assets. Some negative consequences that have arisen out of the payment of the capital gains taxes, is that some beneficiaries have been required to sell properties or businesses, long held by their family, as they cannot afford to pay the significant taxes. To minimize this impact, consider strategies such as:

  • Primary Residence Exemption: If your primary residence qualifies, this exemption can significantly reduce capital gains.
  • Spousal Rollover: Assets transferred to a surviving spouse can defer capital gains taxes until their eventual disposition.
  • Lifetime Capital Gains Exemption: If you’re a business owner, this exemption can be valuable when selling qualified small business corporation shares.
  • Trusts: Family Trusts are not only an effective way to shield assets from potential liability, but they can also be quite proficient in reducing capital gains incurred from the deemed disposition on death. Assets held in trust are not considered to be assets of the deceased and are therefore not subject to deemed disposition. While historically trusts were more utilized, recent amendments which created onerous reporting requirements, as well as trusts being taxed at the highest marginal rate, have seen a significant decline in their use.

Minimizing Estate Administration Taxes:

Estate Administration Taxes (commonly known as probate fees) are only applicable to assets that pass through the probate process. To reduce these taxes, you can implement some of the following strategies:

  • Joint Ownership: Holding assets jointly with the right of survivorship ensures they bypass probate. It is important to obtain sound legal advice before transferring title into joint ownership, as there are many negative consequences to doing so. Additionally, if not documented properly, it may lead to costly litigation of your estate. We will delve deeper into the potential consequences of holding assets jointly in our next blog, “The Risks of Jointly Holding Property”. 
  • Beneficiary Designations: Designating beneficiaries for assets such as RRSPs, RRIFs, and life insurance policies can keep them out of the probate process. Assets with designated beneficiaries bypass the probate system entirely and are exempt from Estate Administration Tax. 

While this strategy effectively reduces taxes, it may inadvertently lead to unexpected consequences in the distribution of your estate. For example, if your primary intent is to evenly distribute your estate among your children and, in the unfortunate event that one of them predeceases you, to pass on their share to their own children (your grandchildren), you must be cautious about the selection of designated beneficiaries. If your registered account’s beneficiaries are exclusively your children, then your grandchildren may not receive the intended portion of the registered account. This underscores the importance of carefully considering beneficiary designations to align with your estate distribution goals.

  • Gifting Assets: Gifting assets during your lifetime reduces your estate’s total value subject to probate. As with Joint Ownership, if the gift is not properly documented, it may be subject to constructive/resulting trust litigation.
  • Trusts: As stated earlier, assets held in trust are not considered assets of the deceased. Therefore, it is not necessary to pay Estate Administration Taxes on such assets.
  • Secondary Wills: As mentioned in a previous blog post, an executor derives authority to administer estate assets from the will, not from the Court. This unique distinction allows for efficient tax planning, by enabling the executor to administer assets not subject to probate via a secondary will.  Some assets, such as real property subject to a first dealing exemption, shares in a privately-held corporation, jewelry, and valuable art pieces, are not required to be probated. As only assets going through the probate process are subject to Estate Administration Taxes, exempt assets may not be subject to such taxes. However, if exempt assets are bequeathed in a will that contains assets requiring probate, the value of the exempt assets will be subject to Estate Administration Taxes. Therefore, it is crucial that a secondary will is not “tainted” by any assets subject to probate.

Takeaways

Proactive estate planning is the linchpin to successfully reducing Estate Administration Taxes and minimizing capital gains on the deemed disposition upon death. By taking advantage of available strategies during your lifetime, such as the primary residence exemption, spousal rollovers, and beneficiary designations, you can protect your assets and your beneficiaries’ financial well-being. Moreover, trusts, including family and testamentary trusts, can serve as powerful tools for tax-efficient wealth transfer and protection. 

If you need skilled and professional guidance on optimizing your estate plan, including the reduction of taxes, do not hesitate to reach out to our experienced team at Pavey Law. Stay tuned for more insights into estate planning in our upcoming blogs.