Death and Bequeathing the Property
On death, your vacation property could be subject to probate taxes, as well as capital gains tax. There is a deemed disposition on death of your assets on death. This could result in a substantial and unexpected financial impact on your estate, necessitating the possible sale of the property to pay the taxes. However, with some highly skilled professional tax advice, you might be able to strategically structure your vacation property ownership to legitimately avoid, minimize, or defer the capital gains tax hit during your life, and on your death.
Here are the key issues and some options to consider:
Probate Taxes
All provinces other than Quebec have a probate tax on the value of the assets that are part of the deceased’s estate. Alberta is the lowest at a maximum of $400. British Columbia has a sliding scale up to $50,000, and 1.4% of the value of the estate over that amount with no maximum cap.
In order to avoid probate taxes, sometimes people register the property in joint names, or joint tenancy, for example with one of the children. If one person dies, their equity in the property automatically transfers to the surviving owner, bypassing the will and therefore avoids probate tax. The intent and fairness of this probate avoidance technique could be challenged depending on the circumstances, eg if there were other children not included on title in this scenario. Alternatively, one of the children might have personal or business debts that could result in a court judgment and lien against the property. One could be penny wise but pound foolish.
Tax Planning Strategies
There are numerous tax and estate planning strategies to consider. However, here are the two common ones that may or may not be applicable or available for your needs, depending on your situation.
One strategy is life insurance. Depending on your age, medical condition, and financial resources to pay increasing premiums over time, this option may be available. You calculate the amount of capital gains tax each year that would have to be paid by your estate on your death, and take out a term life insurance policy on that amount, and increase the amount as required each year to cover the tax. There is no tax on life insurance, so your estate or beneficiary would get 100% of the proceeds to use to pay off the taxes. If the premiums are onerous, sometimes parents ask the children to pay the premiums, as it is ultimately to their collective and best financial interest to do so, in order to have a tax-free property bequest down the road.
Another strategy available since 2000, is to transfer the vacation property into a “alter-ego” trust. You need to be a minimum of 65 years of age, in order to transfer the property into this special type of trust without capital gains tax being triggered in the process. The benefit is that you can maintain full control of the property through the trust. Your children could be named as beneficiaries of the trust and thus would inherit it on your death. Any future capital gains could be deferred until your beneficiaries ultimately sell the property.
If you are planning to purchase a new vacation property, or your existing property has not accrued much if any capital gain, you should obtain skilled professional advice. You may wish to transfer the property to a trust in a timely manner for tax and estate planning strategic reasons. There are different types of trusts available, other than the “alter-ego” trust that could fit your needs. If your children use the property for several generations, the capital gains tax is deferred until it is ultimately sold, and based on the gain at that time. By then, maybe the federal government in their infinite wisdom will have eliminated capital gains tax on vacation property! In the meantime, tax delayed is money made.
