Written by: Gali Gelbart, Estate and Trust Consultant, Scotia Wealth Management
One of the most common questions I get asked by clients is if they should add one or more of their children on title to their home or other real estate holdings. A lot of people like the simplicity of using joint tenancies to automatically transfer the property on their death. It certainly can be an attractive estate planning option, for example where a parent has one child who is the sole beneficiary of the parent’s entire estate. However, too often there are risks to using joint tenancy to distribute the real estate.
Joint tenancy is a type of ownership used in the common law provinces of Canada, whereby the owners are equal share owners of the entire property, and each has the right of survivorship. Many spouses for instance likely own their principal residence as joint tenants, allowing for an automatic assumption by the surviving spouse without having the home fall into the estate of the deceased spouse. Because of this, the home does not attract probate fees since it does not form part of the deceased person’s estate. This contrasts with holding property as tenants in common, where multiple owners can own shares in the property discretely, without a right of survivorship to the co-owners.
However, there are traps for the unwary. Canadian law presumes that when a parent gives an interest in property to their adult child, the child holds the property in trust for the parent (or the parent’s estate when the parent dies). This is particularly true if the transfer is gratuitous (the child does not pay for their share) and there is no written evidence regarding the intention of the transfer.
If the parent wants to ultimately give the property to the adult child, its certainly advisable to document this intention at the time of transfer by a deed of gift. Otherwise, the property will be included in the parent’s estate and attract probate fees, defeating the original aim of gifting the property directly to the child.
So, what are the advantages of using joint tenancy?
British Columbia, Ontario and Nova Scotia have relatively high probate fees (also called estate administration tax) compared to the rest of Canada. Coupled with the rapidly increasing real estate values across Canada, this is one of the strongest motivations for adding the intended beneficiary of the property on title as a joint tenant. When the transferor dies, the intended beneficiary takes complete ownership as the survivor. The transfer is quick and simple compared to probating the estate, which can take over a year or longer.
However, there are multiple risks of using joint tenancy for estate planning.
Let’s build on our original example. Instead of parents intending to leave their entire estate to one child, suppose a couple has three adult children, each with a family of their own. Now, let’s say that one of the children, Jane, lives close to Mom and Dad, and has spent her adult life taking care of their needs and helping with home maintenance. Mom and Dad feel that the family home should be given to Jane, while the other two siblings can share their remaining estate, so they go ahead and transfer title into Mom, Dad and Jane’s names in joint tenancy.
The first problem might be that the final estate is not liquid enough to equalize each child’s share if most of the value of the estate was held in the principal residence, particularly after the final tax bill is paid out of the estate. This situation creates family discord among the disappointed beneficiaries and has led to various court cases over the years.
Further, what if Jane predeceases her parents – there is no provision allowing Jane’s family to inherit her intended share as contingent beneficiaries. Thus, the parents have inadvertently disinherited Jane and her children if this occurs.
The second real concern is the loss of control over the home or other real property. Even if the parent might find they need to access the capital in the real estate as life circumstances change, they cannot easily transfer or mortgage their interest in the property without the consent of the other owners. In some cases, severing the joint tenancy or using a co-ownership agreement is preferred. For example, if a family vacation property is used occasionally by various family members, then each family member could own a proportionate share. This can help clarify how the property will be used and what happens when one of the owners needs to access the capital held in the property.
Third, following our example above, what if Jane has a marital breakdown or has creditors making claims against her assets? Jane’s interest in the parent’s home could be exposed to creditor or spousal claims.
Fourth, as with any disposition of property, there are tax considerations. When the parents transferred their interest into joint tenancy with Jane or perhaps multiple children, this disposition likely gives rise to a large capital gain. Some care must be given to applying the principal residence exemption, especially if the parents own multiple properties.
Along these lines, it would be wise to ensure there are property transfer tax exemptions available when the child is added to the title. In our above example, what if Jane wants to purchase her first family home with her spouse? Assuming she lives in British Columbia, she might have forfeited her ability to access the first-time home buyer’s exemption for the property transfer tax on her home purchase.
Overall, there are specific situations where adding owners on title as joint tenants will make sense and carries low risk. The very basic example was an only child of a first marriage, where the spouses have executed spousal Wills and their estate planning goal is to streamline the estate distribution for their sole beneficiary. However even in situations that at first blush sound simple, due consideration should be made to the overall asset mix of the estate, the final tax bill, and the family dynamics of the beneficiaries. Transferring the real estate in the Will, establishing trusts, disposing of assets before death and planning lifetime gifts could all be better estate planning approaches for many families.
For the last decade, I have led an international, interdisciplinary team that has been looking for promising practices in long-term care. In addition to doing the traditional kinds of research that looks at things like administrative data and funding, we did what we call rapid, site switching team research that involved taking a team of 12 into long-term care homes in Norway, Sweden, Germany, the UK, the US and four Canadian provinces. Each team was international and interdisciplinary. We observed and interviewed over the course of a week (see Pat Armstrong and Ruth Lowndes, eds. Creative Teamwork: Developing Rapid, Site-Switching Ethnography, New York: Oxford University Press, 20018). During the site visits and afterwards, we spent a lot of time discussing and reflecting on what we saw and heard.
The care I am talking about is that provided in what are most frequently called nursing homes. These are homes that provide 24/7 nursing care and, in Canada at least, are heavily subsidized from the public purse. They are licenced by governments for a specific number of beds. The Canada Health Act prohibits fees for medically necessary hospital and doctor care but not for the range of services provided in these these homes. All these homes are heavily regulated by the provincial/territorial governments that are primarily responsible for long-term care and these governments determine the criteria for entry, with variations among jurisdictions in application processes and criteria.
These homes have fees, set by the government, that usually vary with the kind of room-private, semiprivate, or basic. The fees vary across Canada, although not by a lot, and are set relatively low. All provinces and territories provide subsidies for those unable to pay even these fees, although the provinces and territories differ in whether they take resident assets into account in determining these subsidies (See Martha MacDonald, M. Regulating Individual Charges for Long-Term Residential Care in Canada. Studies in Political Economy 95. Regulating Care, pp. 83-114, 2015). The nursing and medical care, as well as the cleaning, the food, the laundry, the security, supplies and the administration are all provided as part of the package. So money should not keep you out of a Canadian nursing home. What will keep you out is the shortage of beds for those who qualify. All jurisdictions have long waited lists.
These homes differ from places usually called retirement homes. Entry into them is determined by the owners, and so is being told to leave. Most are owned by for-profit companies, with Chartwell being the largest. They are largely unregulated by the government, except under landlord and tenant legislation. The tenant pays the full costs of all services, although governments may provide some publicly-funded home-care within them.
I keep hearing that more than 9 out of ten older people do not want to enter a nursing home and that those numbers are going up with the disaster that is COVID. That’s a good thing, given that less than 4% get into a nursing home. Indeed, a significant number of people want and need nursing homes. Our project has been about making nursing homes as good as they can be, not about rejecting them. We don’t think there is one perfect model for doing so, in part because both context and populations matter. What works in Edmonton may not work for an Indigenous community in northern Alberta. But we do think there are ideas worth sharing.
Based on our research, I want to turn to eight areas we have identified to look for or to change. There are more we can talk about in the discussion if you wish
Increased staffing of direct-care workers results in fewer negative health outcomes for residents. Inadequate staffing levels are strongly correlated to burnout among health-care workers, higher likelihood of workplace injury, and result in high rates of staff turnover – all of which impact the quality of care they can provide residents.[ii]
And according to Parkland, Alberta has not studied staffing levels so we don’t know how much care is provided. But before the pandemic some families were hiring private companions for their relatives the barring of families during the pandemic made it very clear the extent to which homes relied on thus unpaid labour to make up for the gaps in care left by low staffing levels.
It is not only entire facilities but also services within them that are being handed over to for-profit companies, blurring the lines between public and private. Some not-or-profit homes are even managed by for-profit ones, often importing problematic practices. Which brings me to my fifth point.
While food has received some attention during COVID, with the military reporting cases of malnutrition, less attention has been paid to clothing. Yet we heard from residents, staff, and families that clothes are essential to our dignity and our sense of self. They are an indicator of care and of a life outside the nursing home but only if there is space for residents to bring their favourite clothes from home, only if they can be appropriately washed and only if staff has the time to help people dress. Too often we were told of mother’s favourite sweater returned half the size or not returned at all, because it was either lost or given to someone else. In a Swedish home we studied, there was a small washer dryer combination in each resident’s bathroom and the staff could easily put clothes on the delicate cycle and infection danger was reduced by keeping laundry in the room. How clothes and laundry are dealt with also has a major impact on how a home looks and smells. We decided not to do a site visit in a Texas home because it stunk the minute you walked in the door. (See Pat Armstrong and Suzanne Day Wash Wear and Care: Clothing and Laundry in Long-Term Residential Care Montreal: McGill-Queen’s University Press,2017).
Cleaning has also emerged as critical in the time of COVID but there is little talk about how important cleaners are to other aspects of care. We heard regularly from residents and staff about how cleaners were often the people they talked with on a regular basis, people who helped keep them connected, entertained, and valued. That was much less likely to happen when cleaning was contracted out.
Let me end by saying there are good nursing homes in Canada. Indeed, when we ask residents if there is anything better about living in a nursing home compared to their previous home, many say yes; they feel safe, have company and activities, few if any of which they would have at home. There is certainly significant room for improvement, as multiple studies and COVID have. But by drawing our attention in such a shocking manner, the pandemic disaster has also given us the opportunity to work together to make nursing homes as good as they can be.
You can find our many publications on our website https://reltc.apps01.yorku.ca/publications but I would draw particular attention to the following which are available for downloading without cost
Armstrong, Pat and Lowndes, Ruth, eds. Negotiating Tensions in Long-Term Residential Care: Ideas Worth Sharing. Canadian Centre for Policy Alternatives, 2018.
Download the book here or as an eBook with Apple books here
Armstrong, Pat and Daly, Tamara, eds. Exercising Choice in Long-Term Residential Care. Canadian Centre for Policy Alternatives, 2017.
Download the book or e-book with Apple books here
Armstrong, Pat and Braedley, Susan, eds. Physical Environments for Long-Term Care: Ideas Worth Sharing. Canadian Centre for Policy Alternatives, 2016.
Download the book or e-book here
Baines, Donna and Armstrong, Pat, eds. Promising Practices in Long Term Care: Ideas Worth Sharing. Canadian Centre for Policy Alternatives, 2015/16.
Download the book or e-book here
[i] Harrington, Charlene et al. The Need for Higher Minimum Staffing Standards in U.S. Nursing Homes Health Services Insights. 2016; 9: 13–19.
Published online 2016 Apr 12. doi: 10.4137/HSI.S38994
Pat Armstrong is a Canadian Sociologist and a Distinguished Research Professor at York University.
Although the US estate tax exemptions are higher than ever, specific rules apply to Canadians owning property considered to be located in the United States. While some property considered to be located in the United States (e.g., US real property and personal property like cars, boats, household furnishings, and the like) may seem obvious, many Canadians are surprised to learn that other property, such as stocks in US companies— even if held in registered retirement savings plans (RRSPs)—are considered to be located in the United States for estate tax purposes.
Currently, the top US estate tax rate is 40 percent of the value of the property as of date of death. As you can imagine, this can result in a significant tax bill, particularly for Canadians with valuable US real estate, large RRSPs, or other certain property considered to be US situs assets. US tax law shelters only US$60,000 from estate taxation for non-resident Canadian citizens owning property located in the United States. The Canada–US Tax Treaty offers Canadian residents an increased estate tax exemption that may reduce or eliminate any estate tax due to the United States. However, qualifying for the increased estate tax exemption under the treaty is intrusive, burdensome, and expensive.
The increased exemption available to Canadians under the treaty in 2021 is calculated as follows:
(US situs assets ÷ worldwide assets) × US$11.7 million
(Note that in 2026, the US estate tax exemption is set to be reduced to only US$5 million indexed for inflation)
Consequently, a Canadian resident with less than US$11.7 million in worldwide assets in 2021 will not incur any US estate tax (this number will be cut approximately in half in 2026). In addition, the increased estate tax exemption available under the treaty can be doubled if property is left to a surviving spouse. This all sounds really great, right? Well, yes and no. It is great that, under the treaty, US estate tax can be eliminated for many Canadian residents owning property in the United States. But, as referenced above, qualifying for the increased exemption that eliminates US estate tax is more complicated than it appears.
In order to qualify for the increased estate tax exemption under the treaty, the executor of the estate must file a Form 706-NA (US non-resident estate tax return) with the US Internal Revenue Service (IRS).
Filing a Form 706-NA requires the following:
Preparation and filing within nine months of death (unless a six-month extension is granted by the IRS)
Complete and accurate disclosure of all worldwide assets
Providing US dollar value of each individual asset (per US tax rules and regulations) as of date of death
Establishing that the US dollar values of certain assets are accurate by attaching valuations prepared by certified, credentialed appraisers Establishing that the US dollar values of other assets are accurate by attaching exhibits showing US dollar values as of date of death
Consider a simplified scenario in which a Canadian couple owns a Florida residence worth US$300,000 in the husband’s name alone and RRSPs each worth US$500,000 holding US stocks worth US$200,000 each. Further, assume that the couple owns a business, a home, and other assets all in Canada. If the husband dies first, he will be considered the owner of US$500,000 in US situs assets.
This is well below the US$11.7 million that can be excluded from estate taxation under the treaty. Without the treaty credit, his estate will be taxed on the value of his estate exceeding US$60,000 and the estate tax liability in 2021 would be approximately US$124,000. In order to eliminate this estate tax, a Form 706-NA must be filed. In order to file the Form 706-NA, certified valuations of all of the Canadian-based assets (business, home, Canadian assets in RRSPs, and other assets) as well as all of the US assets (Florida home, US stocks in RRSPs) will need to be obtained. In addition, a cross-border attorney or accounting firm will need to be retained to prepare and file the Form 706-NA. Finally, an attorney admitted to practice in Florida will need to be retained to probate the will of the decedent and run an estate administration in order to transfer the Florida property.
While filing a Form 706-NA offers many Canadian residents relief from US estate taxation by qualifying for the increased exemptions under the treaty, relying on filing it in order to get that relief can be more costly than one might imagine. Obtaining proper valuations is expensive, time consuming, and intrusive. Undervaluing assets on the Form 706-NA can result in significant penalties. Failing to file the Form 706-NA can result in many problems for the decedent’s estate, executor, and beneficiaries. Penalties and interest would accrue on any unpaid tax and US property could be characterized by the IRS as having no basis. As a result, on the sale of a zero basis asset, capital gains tax will be due on the full proceeds of the sale.
In summary, Canadians owning property considered to be located in the United States with a value in excess of US$60,000 are well advised to closely examine the US estate tax consequences of owing that property. How can the problems of owning property considered to be located in the United States be solved for Canadian nonresidents so that they won’t be faced with filing a Form 706-NA and all of the expense, intrusion, and burdens that come with that? There are a number of ways to own US property that will block US estate tax, including certain types of trusts, partnerships, and corporations. The type of entity that is most appropriate for any particular Canadian nonresident is highly dependent on the specific facts and circumstances of the taxpayer(s).
If you would like to determine whether you have any exposure to US estate tax and how you might reduce or eliminate that exposure, please contact David Luzon, partner,
at email@example.com, and 212.784.5827
Some people in life are private. It is hard to believe this statement when we look at the number of social media posts that take a revealing look at people’s lives, their feelings and their relationships – good and bad.
Privacy is valued and sacred to many. Individuals may choose to be closed about their financial assets and matters surrounding their families and businesses. So, when the discussion turns to estate matters, efforts to ensure privacy continue to be of upmost priority.
The determination of what financial and estate planning tools should be considered, usually have us turn to will substitutes such as trusts, beneficiary designations, etc.
Beneficiary designations allows clients to consider the potential for:
- Bypassing the estate
- Avoiding probate (estate administration tax)
- Having beneficiaries receive funds directly
- Avoiding delays in settling the estate
However, when not coordinated in an overall plan and not taking into consideration family dynamics, it perhaps is not surprising that litigation can arise out of beneficiary designations. The desire for privacy is lost when disputes over who is entitled to receive the proceeds can escalate when it reaches the courtroom.
In Simard v. Simard Estate 2021 BCSC 1836, the loss of privacy plays out when Verna Simard (the matriarch) passed away leaving only one of her children, Julie, as the beneficiary of various registered accounts and joint bank account holder (for the purposes of this article, the other assets in dispute will not be addressed). Verna’s other children did not agree with their mother’s testamentary decision and took Julie to court. The use of the beneficiary designations may have seemed as a simple way for the proceeds to bypass the estate. However, based on court documents, the how and why this family ended up in the courtroom is a history of estrangement, tragedy, and other family dynamics that Verna probably never wanted disclosed.
The Result: The court applied the presumption of resulting trust from Supreme Court of Canada Pecore v. Pecore,  S.C.R. 795 (“Pecore”) to Verna’s joint account, but also to some RRIF accounts of which Verna designated Julie as beneficiary.
The Concern: The application of Pecore again has lead practitioners to consider the impact of this and other similar cases where the named beneficiaries of plans, funds and life insurance policies are not the same residuary beneficiaries of an estate.
At this point, what should we be doing:
Review our beneficiary designations
Take a whole view of the assets and beneficiaries we have in our lives
Compile a Net Worth Statement – what assets are being held jointly
Are our Executors prepared – Access to professionals and Executor Checklists
Does the estate have liquidity to address the estate debt?
Make it a point in your practice to review beneficiary designations
Encourage ourselves and our clients to compile a Net Worth Statement – what assets are being held jointly, etc.
Provide Executor Checklists
Consideration of the use of insurance trusts, contingent beneficiaries, will substitutes, etc.
Provide a comprehensive review of testamentary documents and do they match the beneficiary designations made.
The commentary in this article is meant to be general in nature and should not be considered legal or tax advice to any party. Individuals should seek the advice of professionals to ensure that any action taken with respect to this information is appropriate to their specific situation.
Jos Herman, BComm, CPA, CA, CFP, TEP Director, Wealth, Tax & Estate Planning
Planning for all of life’s events is not always possible. The same can be said for the transfer of a life insurance policy to a new owner, whether an individual or corporation. While it’s best to avoid the need to transfer life insurance entirely – and the accompanying tax consequences, which can be complex and onerous - it’s not always possible to foresee every future circumstance, and so sometimes, it just needs to be done.
For example, you may own a policy personally and want to transfer it to your corporation. Or, your operating company owns the policy and now the business is to be sold. So, what should you consider before contacting the insurance company to make a transfer?
One of the key considerations is what the deemed ‘value’ will be of the transfer and whether that will result in a taxable gain of any kind. The rule is that the ‘deemed proceeds of disposition’ will be the greatest of the fair market value (FMV) of the consideration received (if any), the cash surrender value (CSV) and the adjusted cost basis (ACB) of the policy. A gain will arise when the deemed proceeds exceeds the ACB – and this gain is not a capital gain so is fully taxable as income! In addition, there are no tax-deferred rollovers for the transfer of life insurance to or from a corporation.
What happens if you need to transfer ownership of a life insurance policy in the following situations… and remember to keep in mind the following terms related to valuing the policy for tax purposes: FMV means fair market value, CSV is the cash surrender value, and ACB is the adjusted cost basis (or the cost for tax purposes)
You transfer a life insurance policy to your corporation - you will have a gain for the deemed proceeds in excess of the ACB; however, there is no requirement that you receive FMV consideration on the transfer. Therefore, you could limit the proceeds to the greater of the CSV and the ACB. If the ACB of the policy is greater than the CSV, no gain will arise. If CSV is greater than ACB, a gain will arise equal to the difference.
Your corporation is being sold and you need to transfer the life insurance to yourself - if the consideration you receive is limited to the greater of CSV and ACB, this will limit the amount of the gain to your corporation, which seems like great planning; however, a shareholder benefit will result equal to the excess of FMV over that consideration! This is not a good result since your corporation would not get a deduction for the amount of the benefit – double tax results! If you instead pay FMV for the policy, the corporation will now have a taxable gain equal to the FMV less the ACB of the policy.
The operating corporation transfers a life insurance policy to your holding corporation - although the same shareholder benefit issues exist as noted above, the benefit can be eliminated by paying a dividend to the holding corporation that is equal to the FMV of the insurance policy and is paid by transferring the policy as payment of the dividend. The gain to the operating corporation is limited to the excess of the policy’s CSV and ACB. The dividend should be tax-free to the holding corporation if certain conditions are met.
You want to wind up your corporation - this might seem like the easiest solution to get the insurance policy into your hands but special rules apply that will result in a disposition of the life insurance policy at FMV, with potentially significant income tax consequences to you and your corporation.
You want to donate a life insurance policy to a charity - the same rules apply to determine the amount of the proceeds but there is no consideration received so proceeds would be limited to the greater of CSV and ACB. Your charitable donation receipt would be at FMV, which is a great result as the donation could be used to offset other income.
You want to transfer your life insurance policy to a family member – again, the same rules apply to determine the proceeds of disposition; however, there are rollover rules available in certain circumstances (between spouses and from a parent to a child for a policy on a child’s life).
Needless to say, there are lots of things to consider when transferring a policy using any of the methods outlined above. Always touch base with your tax accountant or lawyer before initiating a policy transfer to ensure you understand any resulting tax consequences.
by Riley Moynes
Everyone says you’ve got to get ready to retire financially. Of course you do…but what they don’t tell you is that you’ve also got to get ready psychologically!
Why is it so important to prepare psychologically? First, because 10,000 North Americans will retire today and every day for the next 10 to 15 years; it’s like a retirement tsunami!
And when they crash onto the beach, they’ll feel like fish out of water without a clue as to what to expect.
Second, it’s important because there’s a very good chance that you will live about a third of your life in retirement. So it’s critical that you have a “heads up” to the fact that there will be significant psychological changes and challenges that come with it.
I thought I had a pretty good idea what success looked like in a working career, but when it came to retirement, it was “fuzzier” for me. So I decided to dig deeper, and what I found was that most everything emphasized
financial and estate matters… important stuff for sure, but not what I was looking for.
So I interviewed dozens of retirees and asked the question, “What are the elements of a successful retirement?” Then I synthesized the information, looking for patterns.
And I discovered that there is a pattern or framework that can help make sense of it all…and that’s what I want to share with you.
Phase One is the vacation phase and that’s just what it’s like.…you wake up when you want, and do what you want all day. And the best part? There’s no set routine.
For most people, Phase One represents their view of an ideal retirement…relaxing, enjoying a fun holiday, Freedom 55.
Typically this Phase lasts about a year or two and then strangely, it begins to lose its luster.
We begin to find ourselves feeling a bit bored. We actually begin to miss our routine…something in us seems to need one. And we ask ourselves, “Is that all there is to retirement?”
When these thoughts and feelings start bubbling up, you know you’ve entered Phase Two.
Phase Two is when we feel loss and we feel lost.
It’s when we suffer five significant losses in retirement.
We don’t see these losses coming, and since we lose all five at the same time, it’s traumatic!
You see, before we achieve some of the positive results possible in Phases Three and Four, we are going to experience feelings of fear, anxiety and even depression. That’s just the way it is!
But luckily, at some point most of us say, “Hey, I can’t go on like this. I don’t want to spend a third of my life…perhaps 30 years…feeling this way.”
And when that happens, we’ve turned a corner into Phase Three.
Phase Three is a time of trial and error.
The critical question we ask ourselves in Phase Three is, “What can I do to make my life meaningful and productive again? How can I contribute?
The answer? Do things you enjoy and things you do well.
But understand this: It’ll often involve disappointment, failure and false starts.
I know this sounds bad…but we have to persist in exploring possibilities that’ll make us want to get up in the morning again, because if we don’t, there’s the real chance of slipping back into Phase Two, feeling like we’ve been hit by a bus …and that’s not a happy prospect.
Now, not everyone breaks through and reaches Phase Four, but those who do are some of the happiest people I have ever known.
Phase Four is when we reinvent and rewire.
The critical questions here are, “What’s my mission here, my purpose?” “How can I squeeze all the juice out of retirement?”
You see, we need to find activities we find meaningful, that give us a sense of purpose. And what I’ve found is that it almost always involves service to others.
Maybe it’s helping a charity we care about. Maybe it’s mentoring young people. Maybe it’s delivering Meals on Wheels.
Or maybe it’s doing what I did:
In November, 2019, I was part of a nine-person mission to Honduras sponsored by Water Ambassadors Canada (waterambassadorscanada.org). Our goal was to repair eight wells there, most of which had been broken and inoperative for years. During that week, we were fortunate to be able to repair seven of them thus providing clean water to 2260 people, and also offered hygiene training to 320 mothers and children in the villages we visited. It was exhausting, emotional work, but it was exhilarating!
That’s what’s possible in Phase Four!
So now you know the Four Phases of Retirement.
If you’re retired, you know which Phase you’re in.
If you’re not retired, I hope you have a better idea of what to expect when you do.
I just wish I knew then what you know now about The Four Phases of Retirement.
We know we should enjoy our vacation in Phase One. We know we need to adjust to the losses in Phase Two…and test some options in Phase Three.
But we need to keep our eyes on the prize! So let’s make it our goal to get to Phase Four.
Everyone says you’ve got to get ready financially. Of course you do… but you’ve also got to get ready psychologically.
[Dr. Riley Moynes is a ‘rewired’ (not retired) educator, author, financial advisor, TEDx speaker, and podcaster. He writes reader-friendly publications on topics of public interest. The Four Phases of Retirement is a Canadian best-seller. Visit thefourphases.com.]
By Patrick J. McCormick, JD, LLM
A growing number of nonresidents (those who, for U.S. tax purposes, are classified neither as citizens nor U.S. residents) are seeking ownership of American-based assets since the United States is an appealing jurisdiction for investment by foreign taxpayers. A consideration of American tax consequences, however, must be part of their investment exploration. The tax results for nonresidents can be stark when compared to U.S. taxpayers. Critically, differences in transfer tax exemptions for nonresidents make estate planning vital.
The Tax Cuts and Jobs Act doubled the lifetime gratuitous transfer exclusion for U.S. taxpayers (to $11.58 million in 2020). The need for tax-focused estate planning for domestic individuals may have been eroded, but for nonresidents, the need for transfer tax planning has grown. A stagnant, miniscule exemption of $60,000 for estate tax and no specific nonresident exemption for gift tax makes effective planning a necessity.
Nonresident aliens are taxed by the United States on income effectively connected with the conduct of a U.S. trade or business and non-U.S. trade or business income sourced to the United States (commonly referenced as “FDAP income” – fixed or determinable annual or periodic income). Critically, default rules applicable to nonresidents are subject to significant modification for qualified residents of countries with which the United States maintains an income tax treaty.
A relevant subset of the effectively connected income (ECI) rules is provided in Section 897 and pertain to foreign investment in U.S. real property. A nonresident disposing of a U.S. real property interest (USRPI) is subject to tax on gains associated with the interest, with these gains automatically classified as income effectively connected with a U.S. trade or business.1 Withholding rules are applicable: a transferee of a USRPI must withhold from the transfer at a rate of 15% of the amount realized (the sum of cash paid/property received and any liabilities assumed) on the transaction if the transferor is a foreign party.2
A major focus among nonresident clients typically is the potential for transfer tax liability – tax amounts owed to the United States for U.S.-sitused gifts and bequests. While nonresidents are subject to estate and gift tax on a much more limited scope of assets than U.S. citizens/residents, they are provided only a fraction of the exemption amounts available to U.S. taxpayers. Exposures can exist in unanticipated ways. For example, an intrafamily transfer of a U.S. vacation home can create transfer tax consequences. High tax rates result in enormous tax consequences from these (innocuous) transfers, with tax amounts typically avoidable if ownership of the asset is properly structured.
For nonresidents, estate tax is assessable on all property – tangible or intangible – located within the United States and owned individually at death, subject to listed exceptions.3 The exceptions are for bank accounts not used in connection with a U.S. trade or business (importantly, this exception does not extend to accounts not held with banking institutions - brokerage accounts are subject to estate tax, even if holding only cash), securities generating portfolio interest, and insurance proceeds. Where these exceptions do not apply, asset situs rules determine whether an asset is subject to American transfer tax. Real property and tangible personal property is sitused in accordance to where the assets are physically located; shares of a corporation are sitused to the country in which the corporation is formed.4 For partnership interests, the IRS has taken the position that the situs of a partnership interest is determined by where the partnership conducts business.5
Nonresidents receive a $60,000 estate tax exclusion, with a maximum 40% rate of tax applicable once a nonresident’s U.S. assets reach $1 million. Referencing the aforementioned intrafamily U.S. real estate transfer, say a testamentary transfer of a U.S. property worth $5 million occurs and the transferring decedent is an individual nonresident. The first $60,000 of value is exempted from tax; tax is then imposed so that the first $1 million of value is taxed at $345,800 and additional amounts are taxed at a flat 40%. In the example, if a $5 million real estate asset is transferred, the resulting U.S. estate tax is $1,921,800. The effective rate of tax (roughly 38.5%) is enormous, and is imposed against a U.S.-sitused asset – one which is ripe for IRS enforcement if required.
U.S. gift tax is assessed on lifetime gratuitous transfers of real property and tangible property within the United States by nonresident aliens. Importantly, intangible property (such as an interest in a U.S.-based corporation) is not subject to gift tax for nonresident donors. Nonresident aliens receive no specific lifetime exclusion, though they are permitted to use the annual gift exclusions of $15,000 per donee (an exception also available for U.S. taxpayers).6
Transfer taxes – both estate and gift – can be modified by estate and gift tax treaties, though transfer tax treaties are typically limited in scope and availability than income tax treaties.
Nonresident aliens investing in the United States maintain a number of options for investment ownership. Generally, the party directly taxable for a U.S. asset will be an individual, a corporation, or a nongrantor trust, with flow-through entities and grantor trusts amongst the structures functionally “looked through” until one of the three types of aforementioned taxpayers are found (but which are often beneficial for nontax purposes – such as liability protection). Nonresidents contemplating U.S. investments seek to minimize U.S. tax exposure (whether income tax or transfer tax), but are also motivated to minimize disclosures to the United States and, where possible, maintain a simplified ownership structure.
The most basic structure (ownership directly by the investing individual) offers simplicity, but it also poses clear issues. The most glaring are estate and gift tax exposures: if held individually, common assets like real estate and corporate interests will be subject to estate tax (and, in the case of the former, gift tax as well). Income is subject to tax based on the aforementioned ECI and FDAP rules; the former usually requires the filing of a U.S. tax return. The filing requirement requires exposure of the individual’s identity to the IRS; in the minds of some nonresidents, this risks additional inquiry into the individual’s financial affairs. A significant benefit to individual ownership for non-ECI assets is the exemption of capital gains from U.S. tax, particularly appealing where the investor resides in a country where foreign-sourced capital gains are not subject to tax. A detriment, however, is that ordinary income tax rates apply to income earned by the investment’s operations.
Ownership through a structure using a foreign corporation offers protection from U.S. transfer tax, but it requires income tax tradeoffs. Specifically, a foreign corporation holding U.S. income-producing assets is taxed at corporate rates, irrespective of the underlying character of income. But it is subject to the branch profits tax, with the underlying owner of the foreign corporation (i.e., the investing individual) required to be disclosed if the foreign corporation has U.S. business profits. Incorporating a domestic corporation into this ownership structure (i.e., having a U.S.-based investment owned by a domestic corporation, with the aforementioned foreign corporation now owning the domestic corporation rather than the actual U.S. investment target) removes branch profits exposure and investor disclosure (as the foreign corporation – now owning only a passive interest in a U.S. corporation – no longer has U.S. business profits). This structure precludes use of the exemption from capital gains for non-ECI assets. This consequence can be minimal, based on the targeted type of investment. U.S. real property interests, which are automatically classified as ECI and subject to U.S. tax, are a common example.
Foreign nongrantor trusts provide an appealing option for many, but one with critical caveats. As a foreign-sitused taxpayer, the trust is subject to U.S. tax only on U.S.-sourced income. Long-term capital gains rates also apply to qualifying taxable income items, a benefit when compared to corporate ownership (though a benefit which has been reduced with the Tax Cuts and Jobs Act reduction in corporate tax rates). Detriments exist where beneficiaries are U.S. taxpayers – or (often importantly) where beneficiaries could become U.S. taxpayers in the future. Tax rates on ordinary income are also a drawback, at least when compared to corporate structures – nongrantor trusts can be taxed at rates up to 37%, with corporate income taxed at a non-graduated 21% rate.
This article is from our December 10th speaker Doug Chandler and co-authored by Bonnie-Jeanne MacDonald
Published in The Globe and Mail
Defined benefit pension plan members facing pandemic-related permanent layoffswill have to make an important financial decision: take the lump sum now or the future pension later.
Canadian pension plans must give terminating employees who are not eligible to start drawing their pensions yet the option of portability. That means giving up their lifetime monthly retirement pension for a lump sum settlement, known as the commuted value.
Although the coronavirus pandemic might cause some delays, the commuted value option is still on the table.
The commuted value of a pension is the sum of the future monthly pension payments, adjusted for interest from now until the monthly payments are scheduled to be paid. With today’s rock-bottom interest rates, lump sum settlements are bigger than ever. But before you go that route, take a moment to consider why they’re so big.
A bond normally pays a positive return to the buyer because the sum of all interest and maturity payments from the issuer exceeds the purchase price. If the bond is resold at a higher price, then the new owner will get a smaller return on their investment. Bond prices have been rising, so the return to buyers has been going down.
At the end of July, the price of a government of Canada real return bond maturing in 2044 rose to $142 for every $100 of face value – even though the government will only pay out $137 in today’s dollars between now and when the bond matures. In other words, the real (inflation-adjusted) return on this bond will be negative. The prices of non-indexed government of Canada bonds are also trading at record-high prices, with returns (in nominal dollars) very near zero.
If you’re a member of an employer-sponsored pension plan, those high government of Canada bond prices are used to calculate the lump sum settlement offer included with your pension option statement, making the offer eye-popping. But should you take it?
Here’s the catch: Guarantees are expensive. What we’re seeing in bond prices is the going price for guaranteed future income. The rise in commuted values is driven by the decisions of professional fund managers who are choosing to pay record-high prices for government bonds instead of investing in riskier assets with the potential for greater returns.
And just as the price of guaranteed bond payments is high, so is the price of your guaranteed future pension. The goal of a commuted value calculation is to strike a fair balance between the interests of the individual who is giving up their pension, and the interests of their employer and the other plan members.
The commuted value represents the economic value of expected future pension payments, with no add-on for the risk that the individual might live longer than normal, or inflation might be higher than expected. There are also no adjustments for fees, or the risks and rewards associated with managing investments.
That means, as high as the commuted value may be, it’s not high enough. If you try to buy the same pension income in the retail market by purchasing an annuity, then you will have to settle for fixed annual increases, rather than true inflation protection linked to CPI increases. And the fixed rate of increases you can buy is very low – much lower than the Bank of Canada’s 2-per-cent inflation target.
Taxes are another consideration. The commuted values are transferred to a locked-in account, but these large values will almost certainly exceed the maximum tax limit. Unless it is used to buy a “copycat” annuity – a life annuity from an insurance company that copies what the pension would have paid – the excess is taken as cash and will be hit with a significant tax bill.
Choosing a lump sum over a lifetime pension payable at a future retirement date should come down to individual circumstances, not investment prospects. The key consideration is whether you need that pension to cover your regular monthly expenses.
Just like professional fund managers, your choice depends on your investment objectives, evaluated against the prices and risks of each alternative. If you value the inflation and investment protection of a lifetime pension, then you should seriously consider whether the risks in the stock market outweigh the possibility of better returns.
It’s hard to imagine, but your retirement could span 30 years or more. Over time, your health and personal care expenses are likely to increase, along with your need for secure income with less risk.
Retirement planning requires a long-term perspective – and the simplicity of secure monthly income is a precious gift you can give to your future older, more vulnerable self.
Doug Chandler is an independent research actuary based in Calgary. Bonnie-Jeanne MacDonald, PhD, is the director of financial security research at the National Institute on Ageing at Ryerson University and resident scholar at Eckler Ltd. Both are fellows of the Society of Actuaries and fellows of the Canadian Institute of Actuaries.
On November 26, 2020, the Estate Planning Council of Canada invited Cindy Boury (Portfolio & Branch Manager) at Raymond James in Abbotsford, BC to speak on this important topic. Cindy is very passionate about protecting senior clients and gave several examples to the audience, who are primarily financial planners, lawyers accountants, insurance advisors, trust officers and gift planners. Cindy explained that there are four main steps to protect clients:
Furthermore, Cindy provided contacts for where to go for help (in B.C.).
Link to handout
On behalf of the EPCC, thank you to our audience, speaker and volunteers for yet another successful Estate Planning event.
The Estate Planning Council of Canada is pleased to share our latest podcast with members of the Health Community and Advisors in the Planning Community.
As Canada faces a second was of COVID-19 cases, we chat with Kelly Yee – Founder of Avatara Yoga, to explore healthy aging and what we can do to improve how we feel and our outlook on life in these difficult times.
Learn more about small steps you can take for yourself and your family. Advisors want to take care of their health – and that gives them something in common with their clients.
Feel free to click on link below or search “Healthy Aging with Kelly Yee” on the following podcast stations:
Please feel free to share the podcast with your community.
Estate Planning Council of Canada
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