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Tuesday, May 27, 2008

Estates and Probate Fees

Another blogger asked me recently to take up the subject of estate planning and probate fees. I am not a lawyer (IANAL) but I have been the executor of one estate that managed to avoid probate and associated with another estate that also managed to avoid it as well. First off, let's examine what it means to probate an estate. In general, when a person dies, their assets are all frozen. In order to release the assets to the next of kin, an estate has to be probated. Probate means getting a court to agree that an executor has the legal right to do so. It is often just a rubber stamp, that comes along with the court demanding a small cut of the gross amount of assets that are frozen. In Ontario, it is around 1.5-2%. In Alberta, it is virtually nothing. Lawyers' fees are on top of this as well. On an estate worth close to a million dollars in Ontario, the government wants the value of a new car in order to deliver its stamp.

Keep in mind that in Canada there are no inheritance taxes, or taxes on gifts for that matter. People receiving estate money, or large amounts of gift cash from a relative do not have to worry about any tax consequences. This is important in terms of understanding the strategy.

One way around probating an estate is to put everything you own into a trust. The trust is set up such that you control everything, but the trust doesn't freeze when you die. The articles of the trust stipulates what happens in that event. Trusts don't get tax deductions like individuals do, so it gets complicated fairly quickly. People who are significantly wealthy may go this route and have lawyers and financial advisors take care of all of this complexity for them. This is about all I'll say on this particular topic.

For the rest of us, what we want to do is to make as much of our assets as possible not freeze upon our death. One way to do that is to make sure that all bank accounts, GICs, etc. be joint with someone who can be completely trusted such as a child, with right of survivorship explicitly stated. Then upon the death of one party, the other has complete unfettered access to the money. There's no income tax consideration here either as all income from the investments can be split in any way between the parties. So if you're joint with your parent, then the income can be accrued to them until their death. Then it starts accruing to you.

Upon death however, all income (from non-joint assets) received by the dead individual from that moment on, has to go into what's called an estate trust. As executor, you cannot disburse money from an estate trust (with a few exceptions as we'll see) unless you probate. As such, you want to minimize what has to go into the estate trust. For example, the CPP death benefit pretty much has to go in there. Life insurance payouts (without a living beneficiary listed on the policy) has to go into the estate trust. Without having a certificate of probate, as executor you can direct the bank to disburse money from this account (or any frozen account) to a funeral home to pay for the funeral. They will also allow other disbursements to pay utility bills etc. on a home if it would cause hardship to the survivors. But the key here may be to work with the funeral home to pay a little way down the road via directed disbursements through the bank. What you want to do here is to drain the frozen estate accounts all the way to zero without going through probate. Another approach to getting frozen accounts drained is to not pay all the income tax owing on the estate. Yes, you'll be hit with penalties and interest but you can direct the CRA to the frozen accounts and hound them to seize the balance. As executor you're still personally on the hook to ensure that all taxes are paid including interest and penalties. So hound them until they seize the accounts.

If the deceased owned a house when they died, then it is very hard to avoid probate. They could gift the house to somebody before they die, but if that new owner doesn't live there, then there is likely tax consequences to the new owner. Cottages or other non-primary residences will likely trigger a large tax bill for the owner if they give it away to next of kin, since it will be a deemed disposition.

One thing, however, to keep in mind is that jointing assets can cause all kinds of problems if the next of kin don't get along with each other. Sometimes probating a will is a good thing, even though it may cost a lot more. This way, the court makes sure that assets are divided according to the wishes of the deceased. If the next of kin are few, and get along well with each other, then jointing assets may well save a lot of money.

So to sum this whole thing up:

  • Make sure that anything that allows a beneficiary such as life insurance and RRSP accounts have at least one living beneficiary listed. If the number of equal next of kin is small enough, then list them all. The establishment will divide the payout equally for you.
  • Anything else should get jointed with right of survivorship. The primary residence and other real estate may be an exception here, talk with a lawyer/financial planner.
  • Try to minimize any money landing in estate bank accounts. Those accounts cannot be jointed. Remember that you can drain this money out, via the bank, to pay funeral homes. CRA can seize these accounts (to your benefit) to pay outstanding taxes. After all that is done, any money left in an estate account will have to be obtained through probate. Do the math, probate may be cheaper anyway once CRA penalities and interest is factored in.
  • Die in Alberta. ;)

Another thing to keep in mind is that if you ever agree to be an executor to an estate, you are personally responsible for getting the taxes paid. I would recommend avoiding agreeing to be executor if you think the estate may be complicated with respect to taxes.

If you have a mentally infirm parent in a nursing home, and have their power of attorney (POA), then you can use that to joint yourself on all the accounts if you haven't already. The POA dies with the parent, don't expect to be able to use the POA after the fact. The POA may have limited power to change beneficiaries on life insurance policies though. Talk to your bank regarding RRSP beneficiaries.


Neil said...

You haven't made mention of US estate tax on US investments.

Jim Somerville said...

US taxes on US investments, or other countries for that matter is outside the scope of my knowledge. Feel free to fill us in.