Traps to Avoid

Avoid the common mistakes made in the drafting of wills and how to avoid them.

Intestacy

It's estimated up to 70% of Canadians don't have a current and valid will. The result can vary from inconvenience and disappointment to drastic financial consequences, depending on the situation.

It's imperative to have a will valid in the jurisdiction where you live and to review it regularly to ensure it accurately reflects your wishes, your current familial situation and financial circumstances.

When someone in Canada dies without a valid will, they are said to have 'died intestate', in which case their assets are distributed according to the provincial or territorial succession act. That's right; the government decides who gets all your assets as well as how much each will receive!

If your will includes any charitable bequests, they would all be defeated, because no succession act in Canada contemplates charities. In one very close call, a testator signed his will the day before he died, resulting in $12 million to Canadian charities that would have otherwise been lost.

Cyril, a pensioner from Toronto, Ontario, updated his will in January and passed away in December. Unfortunately, he never got around to signing it. His estate took twenty-four years to settle.

Dying intestate can be devastating for families and yet a proper, valid will can be prepared in as little as thirty minutes. If you don't have a will, click here to get one. If you do have a will, take it out and read it through to make sure it's current and valid.

Predatory Marriages

A predatory marriage is one when a man or woman marries solely for the purpose of obtaining financial assets, either while they are living or upon the death of the targeted spouse. "We're seeing predatory marriage because more people are living longer on their own, " says lawyer Kimberly Whaley, an expert on the topic with WEL Partners. Here's an example of a predatory marriage:

Frank, a widower in Kitchener, Ontario, aged 82, lived alone. He was pleasantly surprised by the attention he received from a younger 'neighbour'. At first, Nancy would prepare and drop off meals for him, but later would stay and have dinner with him. He repaid her kindness by taking her out for dinner and before he knew it, they were dating. Before long, she professed her love for him and wanted to be married and care for him as he aged so he would never have to go into a nursing home.

Frank was delighted but concerned about his estate. He and his first wife's wills essentially said 'everything to spouse on first death and equal division among their children on second death' and he didn't want that to change. Nancy insisted she didn't want his money and absolutely didn't expect him to change his will for her. She loved him for who he was. The two were married at city hall and Nancy moved in with him.

Frank's children were caught off guard, and somewhat alarmed, but he reassured them they were in love. Before long, they saw less and less of him as Nancy increasingly fielded their calls. Meanwhile, having been made joint on his bank account so she could do his banking for him, she gradually paid off her debts with his pension income.

When Frank died, as Nancy knew full well before targeting him, his will was invalid because of the marriage and his estate distributed according to the Succession Law Reform Act of Ontario, giving her the first $200, 000 and a third of the balance of the estate.

The automatic revocation of wills upon marriage (unless they were made in contemplation of the wedding) has created an opportunity for a new and hideous form of elder abuse. Canadians in every jurisdiction, other than Québec where marriage doesn't revoke a prior will, should be mindful and vigilant.

In provinces that have changed legislation (Alberta in 2012 and British Columbia in 2014) , the changes weren't retroactive so people can still be caught if the marriage pre-dated the legislation. On the day of the marriage, the will became null and void, but it didn't suddenly become valid again once the legislation passed. Unfortunately, many in these jurisdictions tend to have unwarranted complacency on this vitally important topic.

Ian Hull of Hull and Hull LLP also points out that the legal capacity for marriage is lower than that for making a will, meaning an elderly person caught in a predatory marriage, even once discovered, may not have recourse; the marriage may be deemed valid but they could be deemed mentally incapable of making a new will.

While children have always had a moral responsibility to look out for their parents, they now have a powerful financial motivation as well.

Taxes

Most Canadians don't put much thought into taxes when preparing their estates, probably because we don't have either an estate tax or an inheritance tax. Despite this, many Canadians' estates face massive taxes, even if the person wasn't in a particularly high tax bracket when they were alive. The reason is something called 'deemed disposition'. We're deemed to have sold everything just before we died, and we're deemed to have received full fair market value for everything.

Sylvie, a widow in Kelowna, British Columbia, lived on her OAS and CPP plus $4, 000 a month from her registered retirement income funds. Her average tax rate was 19% so it wasn't something she thought much about.

When she died, she was deemed to have sold the family cabin, on the water north of Penticton, which had swelled in value over the years to $2 million. The adjusted cost base was only $40, 000 because it had been in the family for so long. Half of that gain is taxable. She was also deemed to have cashed in her $600, 000 retirement fund, which is fully taxable.

Though Sylvie never paid over $11, 000 a year in taxes while she was alive, her final tax return will owe approximately $1.2 million.

There are a number of ways that might be available to you to avoid or defer your tax liability, but the first step is identifying the amount of your projected estate tax liability.

To see how Sylvie could have solved her tax issue, see Illiquidity.

U.S. Estate Taxes

As noted above, most Canadians don't think about the impact taxes will have when they die, and fewer still consider the impact of foreign taxes. It's important to understand them, plan for them, and make sure executors are aware of their responsibilities with foreign tax authorities, since they are the ones who are ultimately held accountable.

Linda, a single pensioner in Halifax, Nova Scotia, owns a condominium in Florida worth about $500, 000. She's aware of capital gains tax in Canada, but isn't overly concerned because she bought before values dropped and rose again. She paid $470, 000 so her gain is only $30, 000 and only half of that is taxable.

What Linda hasn't taken into account is that her estate will be subject to U.S. tax with the Internal Revenue Service (IRS) because she owns property in the U.S. Unlike Canada, with no estate tax and no inheritance tax, the U.S. has both, plus it has both federal and state level estate taxes. Depending on the state, there could be up to three different taxes payable.

She's also mistaken thinking taxes are levied on the gain. In the U.S. they're actually levied on the value, at a flat rate of 40%. Linda's condo alone could result in taxes of $200, 000.

Linda's executor can avoid the tax if he's aware of the need to file a U.S. return with the IRS and does so correctly within nine months of her death. If he's unaware and fails to for any reason, the tax is payable. If the estate can't pay the tax (if he had already distributed the estate for example) he becomes personally responsible to pay it.

The IRS takes estate taxes very seriously and they're intolerant of apathy or ignorance. None of us would intentionally get our executor children in trouble with the IRS, but many of us could end up doing exactly that unintentionally. All it takes is not ensuring our estates are well prepared.

U.S. Based Executor

Just a generation ago, it was rare for family members to move to other countries. Many people came to Canada, but fewer left. Increasingly however, opportunities in many fields have attracted Canadians south of the border. An easy, and potentially very problematic trap to fall into, is naming one of them as your executor.

The issue is that estates are trusts, and executors are trustees. In Ontario, an executor is actually called an 'estate trustee'. Trusts are deemed resident based on where the trustee resides. Naming an American as your executor therefore makes your estate potentially subject to U.S. tax rules. It doesn't matter whether you own property in the U.S., or even whether you've ever stepped foot in the U.S.

If your estate earns money, which most will, it must be declared, which requires your executor to file a U.S. tax return with the IRS. Your estate then becomes subject to U.S. withholding tax. Every heir wanting to get their share of the withholding tax back must then file a U.S. tax return with the IRS themselves.

If you don't have a suitable executor living in Canada, and preferably in the same province or territory as yourself, appointing a corporate executor may make the most sense. We recommend Concentra Trust due their capability, low fees and presence across Canada. To learn more, click here.

Illiquidity

Illiquidity is a lack of sufficient liquid assets (cash on-hand) to meet either the debts of the estate, the objectives of the estate, and/or probate fees or taxes. Illiquidity can cause major frustration for executors, particularly because they are left with very few alternatives, while they soon learn of the many options that may have been available prior to the death.

Recall Sylvie, who we introduced above under 'Taxes'. "Though Sylvie never paid over $11, 000 a year in taxes while she was alive, her final tax return will owe approximately $1.2 million." Her executrix daughter, grieving, stressed and unable to imagine how to manage a $7, 000 monthly mortgage payment, would likely feel forced to sell the cabin as quickly as possible.

Sylvie however, decided to see what she could do while she was alive to make things easier for her daughter and better for the family. First, she discovered she and her husband were allowed two principle residences until 1982, when the value, hence adjusted cost base (ACB) would have been about $120, 000. Next, she found documentation that they had both made capital gains elections in 1994, crystalizing the ACB at $320, 000. (The higher the ACB, the smaller the taxable capital gain.)

She then learned that she could designate the cabin as her principle residence from the time she bought her condominium and pay tax on the gains on it instead, since it had appreciated far less than the cabin. Her tax liability regarding property was reduced to $600, 000 [($870, 000 - 320, 000 / 2) + $50, 000]

When Sylvie found the insurance policy that they bought years ago, she deducted another $300, 000, since those funds would be paid out at exactly the same time as the tax bills came in. That gave her the idea to just buy another policy. By withdrawing an extra $1, 200 a month, she could buy a term to age 100 life insurance policy to cover off the remaining $300, 000 and keep the family cabin in the family.

The extra withdrawals would also reduce the taxes payable on the retirement fund when she died.

Sylvie's estate preparation saved a lot more than just taxes. It saved her executrix daughter from what might have been an impossible task, kept the family cottage in the family, and spared her daughter from the infighting which that could have caused. Sylvie made sure her estate was well prepared because she knew her true legacy was her family.

We should all be so well prepared.

×
×
October 20th, 2020