EACH YEAR IN CANADA, billions of dollars in assets are transferred at death. Unfortunately, wealth transfers don’t always go as planned.
Here’s how you can avoid some of the most common pitfalls when it comes to transferring wealth.1
1. Ensure you have a will
Many Canadians don’t have a will that communicates their intentions and allows them – and not the government – to determine how their assets will be distributed on death. Having a will allows you to choose your estate’s executor and your children’s guardian(s), facilitates the administration of your estate, and can help save taxes.
Proper planning can help ensure your wealth transfer is carried out as intended.
2. Treat beneficiaries equally
People often want to divide assets equally among beneficiaries. However, not all bequests are taxed equally. Let’s assume you leave a $1 million Registered Retirement Savings Plan (RRSP) to your oldest child, a $1 million home to your middle child and $1 million in non‑registered mutual funds to your youngest child. You think you are leaving $1 million to each child, but the reality is that the youngest child, who is receiving the non‑registered mutual funds under the will, is going to have his or her inheritance reduced by any tax your estate pays on the RRSP and the mutual funds. Assuming a 40 per cent effective tax rate, the estate will pay $400,000 on taxes on the RRSP, in addition to any potential taxes on the mutual funds (let’s assume $100,000).2 These taxes leave the youngest child with $500,000, while the first two children receive assets worth $1 million each.
3. Anticipate a spouse’s decisions
You may name your spouse3 as the beneficiary of your RRSP or Registered Retirement Income Fund (RRIF), assuming a tax‑free rollover into your spouse’s RRSP or RRIF – but what if your spouse takes the cash instead? Your estate will then be responsible for any taxes on the RRSP or RRIF, which means your estate beneficiaries will receive a smaller inheritance.
1 Many of the issues discussed here vary by province. Consult your legal advisor. 2 It is assumed here that the home can be transferred tax‑free as a result of the principal residence exemption. The general rule is that absent a tax‑deferred rollover, the fair market value of the RRSP must be included in the annuitant’s terminal return and taxed in the estate. 3 Meaning your spouse or common‑law partner, as defined by the Income Tax Act (Canada).
Under these circumstances, the legal representative of the estate can make a unilateral election to deduct the amount paid from the RRSP or RRIF in the estate, which effectively transfers the income inclusion to the spouse. If you have
an RRIF, you may prefer to name your spouse as successor annuitant or Joint Life so the RRIF transfers automatically to your spouse on a tax‑deferred basis.4
4. Plan adequately for minor beneficiaries
Generally, death benefits cannot be paid directly to minor beneficiaries and must instead be paid into court or to the Public Trustee. Once the child is of age, he or she is entitled to the funds without restriction. As an alternative, consider establishing a trust to receive funds on behalf of a minor
child.5 That way, you can set out how you want funds invested and when to make payments for the child’s benefit.
5. Name a beneficiary
Unless there is a specific reason to have assets flow through your estate, it’s wise to name beneficiaries directly on insurance policies and investment contracts (such as segregated fund contracts), where possible. The death benefit will then bypass the estate, and beneficiaries can usually receive the proceeds shortly after submitting all necessary documents. In addition, the death benefit will avoid legal, estate administration and probate fees, and may avoid claims by creditors of the estate and challenges to the will’s validity.
Plan for your wealth transfer
Your lawyer, accountant and advisor can help you create an estate plan that avoids mistakes that undermine your intentions or unnecessarily reduce the size of your legacy.
If you don’t have a will, meet with your lawyer to prepare one. Review your will and beneficiary designations regularly, and particularly after a life‑changing event. In addition, meet with your advisor to discuss your wishes for wealth transfer and how best to accomplish them?