4 Tips For A Smooth Estate Transition
Every single year in Canada, billions of dollars in estate assets are transferred at death. In fact, we are approaching one of the largest transfers of wealth in history as approximately $1 trillion in personal wealth will be transferred from one generation to the next in Canada between 2016 and 2026, according to estimates, with roughly 70% of that in the form of financial assets.
Sometimes wealth transfers don't go as smoothly as expected. However, the good news is that there are quite a number of ways to minimize the risk of problems occurring during an estate transfer. Careful estate planning and review of your existing plans can help ensure that the assets you have spent your entire life earning go to the people you have selected, in the way that you intend.
Where There's a Will There's a Way
One of the most common mistakes we see clients make is not preparing (or keeping up to date) their will. A will communicates your intentions and allows you, not the government, to determine how all of your assets get distributed when you pass. A will also helps smooth the administration of your estate and when done right, can even help you avoid some taxes. Some things to take into consideration are:
Having a will prepared by a lawyer is always preferable. Relying on a handwritten will, also known as a holograph will, carries a risk that there may be issues related to interpreting your instructions or that those instructions don’t comply with provincial statutory requirements. Such issues could invalidate the will, add costs to the administration of the estate or delay distributions out of the estate.
In most provinces, marriage revokes a will unless it specifically contemplates the marriage and identifies the future spouse. A marriage breakdown can also affect intended gifts or inheritances outlined in a will.
Charitable giving can be affected if your will leaves too much discretion to the executors in choosing a charity or the amount of the gift. Beneficiaries may object to the amount, which can lead to tension between them and the executor.
Don't Forget Taxes!
Often times we hear stories about how people originally intended to split their assets equally between beneficiaries – for example, between three children. However, if you fail to consider the tax consequences, the wealth transfer may not turn out equal at all.
Take the simple example where you have three assets, each worth $1 million:
Child A will receive a Registered Retirement Savings Plan (RRSP) as the named beneficiary
Child B will receive the family home
Child C will receive a non-registered mutual fund portfolio
You think you’re leaving $1 million to each child, but the reality is that Child A and C may receive significantly less after the taxes owed on the RRSP and mutual funds are paid. An RRSP is deemed to have been taken completely as income in the year of death and are taxed as income. While there are certain circumstances to which these taxes are not owed or reduced (spouse, dependant child or grand child, etc.) these income taxes need to be paid.
Child A, as the beneficiary of the RRSP, will be paid the total value (i.e., $1 million) directly but the estate will have to cover the taxes on this. Tax will need to be paid on this money, and the only liquid assets available would be from Child C's Non Registered Mutual Funds.
The house would go to the estate but be distributed in-kind to Child B. There is no tax liability because it was your principal residence.
The non-registered mutual funds also go to the estate, where they are the only funds available to pay the tax on the RRSP and non-registered mutual funds (unless Child A agrees to part with money to cover the RRSP tax). Thus, Child C’s inheritance is used to pay the taxes and Child C gets a lower after-tax inheritance.
Another example of failing to consider the tax implications often involves second marriages or separated and estranged spouses. For example:
You’ve named your spouse as beneficiary of your RRSP or Registered Retirement Income Fund (RRIF) to provide for them after your death
You’ve named your children (perhaps from a previous marriage) as beneficiaries under your will to inherit the rest of your estate
You assume that your spouse will transfer your RRSP/RRIF to their own RRSP/RRIF, in which case the funds remain tax-deferred until the spouse withdraws them. But what if your spouse just takes the cash? Your estate could be responsible for any taxes on the RRSP or RRIF, reducing the amount your children inherit.
Tax issues may feel complicated, but your advisor can help you to sort out appropriate solutions related to both investments and retirement savings.
When a life event such as a birth, death, marriage, separation or divorce occurs, people often remember to review and update their will, but may forget to review their beneficiaries. This common oversight could greatly affect the realization of your final wishes.
When naming a beneficiary, it’s also important to consider the age of the individual. Death benefits can’t be paid directly to minors and will often have to be paid to a Public Trustee. Once a minor reaches the age of majority, they are entitled to the funds without any restrictions.
If you want a death benefit to be paid to a minor, it’s recommended that a trust be used to receive the funds on behalf of the minor. The terms of the trust can set out how you want the funds to be invested and when payments are to be made for the benefit of a minor. If the child is disabled, the trust could qualify as a disability trust, taxed at lower rates.
With adult beneficiaries, an annuity settlement option or testamentary trust may be the right course of action if there are concerns that the beneficiary may not be financially responsible or is disabled and at risk of losing government disability benefits.
If an insurance investment, such as a segregated fund contract, is in place, the death benefit bypasses your estate and thus avoids probate fees and other estate administration fees. Proceeds are paid directly to the beneficiary, usually within two weeks after the insurer receives all necessary documents. Bypassing the estate also offers protection against claims by creditors and challenges to the validity of the will, which can delay the distribution of your estate by weeks, months or even years.
Segregated funds are one of the best ways to ensure a smooth transition of financial assets to listed beneficiaries in the quickest manner.
Joint Ownership vs. Power of Attorney
Sometimes an estate planning strategy involves questions of trust and ethics, this is especially true in the case of joint ownership of non-registered assets. On the death of one joint owner, the asset transfers directly to the survivor, bypassing the deceased’s estate.
An example could be a single father with two adult children: a daughter in town and a son on the other side of the country. The daughter cares for her father, whose health is failing, and he adds her as joint owner to his bank and investment accounts, which are his only assets, so that she can pay his bills and manage his money. The father’s intention, stated in his will, is that his estate be divided equally between his children.
At the time of death, the father’s accounts automatically transfer to the daughter, and it’s up to her to be honest and return the funds to the estate. If she does not, there is nothing left for the son to inherit. This may result in a lawsuit, leaving it to the court to determine if the joint ownership was a gift to the daughter or merely an agency agreement.
An alternative is to have a properly executed power of attorney for property, which could allow the daughter to assist in administering her father’s finances without adding her as a joint owner.
After a lifetime of carefully saving, investing and planning, you want the peace of mind of knowing your assets will be distributed as you intended. Whether it’s helping with the creation of a will, determining beneficiaries, establishing a trust fund or setting up a power of attorney, your advisor is a trusted partner to help you navigate the estate planning process, including coordination of an accountant and lawyer as needed.
And if it’s been a while, it might be wise to review your existing estate plan to ensure everything aligns with your wishes – helping to avoid some of the common mistakes we see people make time and time again. Feel free to book a free initial consultation with us to see if we can help alleviate some of the stress you may be feeling about transferring your assets to your beneficiaries.