Estate Planning For Canadians
Deemed disposition tax is so-named because your investments are deemed to be sold at death. Any capital gains triggered by their sale are included in a final income tax return filed in the year of death. A final tax return also includes the value of any retirement accounts and income received from stocks, bonds, real estate investments and even life insurance proceeds in the year of death, from January 1 up to the date of death. With Canadian federal income tax rates of up to 29%, this final taxation can be substantial. Provincial taxes and probate fees also apply. (Learn how you can organize your estate to avoid costly probate proceedings in Skipping Out On Probate Costs.)
The good news is the tax is deferred if the assets are transferred to a surviving spouse. Taxes are deferred even if the assets are held in a spousal trust, which provides income to the surviving spouse. However, if the spouse sells the assets, then the tax applies. When the spouse dies and the assets are passed on to other heirs, 50% of the capital gains of any stocks, bonds, real estate investments and other assets are taxable at the personal income tax rate. (Read about choosing the best trust for your needs and situation in Pick The Perfect Trust.)
Why It's Important To Make A Will
"Nothing is certain but death and taxes," American inventor Ben Franklin is attributed to saying. While you can't control either of these two inevitable events, you can make a will to ensure your financial affairs are managed according to your wishes once you're no longer able to, due to incapacity or death. (Read about the importance of keeping your will up to date in Reasons To Review Or Revise Your Will.)
Without a valid will, you are considered to have died intestate. When that happens, in Canada the province decides how your assets are distributed, without regard to your wishes. Following the laws of intestacy, the province typically distributes the first $50,000 of value to a surviving spouse, then divvies up the rest between the spouse and children. If you don't have a surviving spouse or children, your parents are next in line to receive your assets, followed by any brothers and sisters. (Read more about the dangers of intestacy in Six Ways To Lose Your Estate.)
Dying without a will also leads to delays and extra expenses. The court appoints a bonded administrator to serve as an executor of the estate. In addition, any assets distributed to children under 19 must be passed along to a bonded guardian or to the Public Trustee. The process of appointing these administrators is both expensive and time-consuming.
Three Types Of Wills
To ensure your affairs are handled the way you want them to be, you need a will. There are three main types of wills in
- Last will and testament
- General durable power of attorney
- Living will (also called an advance healthcare directive)
The purpose of a last will is to give instructions to a person you choose as an executor on how you want your assets distributed after your death. It typically doesn't give directions on your funeral or burial, since it won't be opened until after the funeral, when the heirs come together for the reading of the will.
Power Of Attorney
The power of attorney gives the person of your choice the power to manage your financial affairs if you become incapable of managing them yourself. It gives this person, designated as your agent or attorney-in-fact, the power to handle such day-to-day tasks as:
- paying bills
- filing tax returns
- opening mail
- talking with accountants and lawyers
- looking after pets
- voting on your behalf
A living will gives healthcare/mental power of attorney to a person of your choice. It gives this person, acting as your agent or attorney-in-fact, the power to implement the medical treatment you wish to receive if you become unable to communicate your wishes. The document tells doctors, family members and the courts your wishes for life-support and medical procedures, if you were to become brain dead, unconscious, terminally ill, or otherwise unable to communicate your wishes. (Read more about the importance of both a power of attorney and a living will in Three Documents You Shouldn't Do Without.)
A living will essentially gives your chosen agent the power to choose whether or not to "pull the plug" or to decide your fate for you, but its value is debatable. Euthanasia isn't legal under section 215 of
Trusts Simplify Your Estate Planning
A will ensures your heirs get exactly what you want them to, but a trust can simplify the process of transferring these assets to your heirs. The main difference between the two is that a trust lets you transfer assets to beneficiaries while you're still alive, and a will transfers your assets when you die.
A trust is a legal entity that owns some or all of your assets, such as bank accounts, real estate, stocks and bonds, mutual fund units and private businesses. The terms of a trust are more legally binding than those of an ordinary will, which can be challenged in a court of law as to whether it fulfills the deceased's "moral obligation." A trust also allows you to avoid the probate process, where the contents of your will are made publicly available.
Types Of Trusts
The main type of trust in estate planning is a revocable living trust, so-called because you can change or revoke the terms of the trust at any time while you're alive. The trust instructs the trustees how to distribute your assets to beneficiaries while you're alive, after death or if you become incapable. (Can You Trust Your Trustee? gives insight on choosing the right person to manage your trust.)
Both you and your spouse can be trustees and manage the trust's assets. This feature of a living trust may be important, for example, if a family business is placed in a trust and you want to continue to have some control over its operations. When one spouse dies, the surviving spouse continues as trustee, but the trust becomes irrevocable in that only limited changes can be made to the terms of the trust. (Read more in Establishing A Revocable Living Trust.)
Since the income is taxable at Canadian trust tax rates, living trusts are not as popular in
In addition, assets that are transferred into or out of a Canadian trust are generally treated as if they have been sold and taxed on any increase in value (appreciation) from the purchase date. However, two relatively recent trust structures, the alter-ego trust and joint-spousal trust, allow you to avoid capital gains taxation. (Read about these and other types of trusts in our Estate Planning Basics tutorial.)
In sum, to ensure your assets are distributed the way you want them to be, you will need a last will, and you also may want to consider a living will as well as a power of attorney, together with a trust.
For information about estate planning in the