As was mentioned in last week’s Tax Tip, new legislation that will significantly affect estate planning recently became law, effective January 1, 2016. Some of the changes were discussed in last week’s Tax Tip and another recent Tax Tip regarding estate donations.
This new legislation will also eliminate graduated rate taxation for most testamentary trusts and dramatically changes how certain “life interest” trusts (like spousal trusts, alter ego trusts and joint partner trusts) will be taxed on death, as of January 1, 2016.
The rules affecting the elimination of graduated rate taxation for testamentary trusts and estates are significant and complex but, essentially, restrict access to graduated rates (for a maximum of 36 months) to only certain estates, not trusts. While the Department of Finance may have had some fair concerns regarding some aspects of the current rules, many practitioners feel the new rules go too far. The rules ignore certain realities. For example some estates require more than 36 months to administer but the new rules do not extend the availability of graduated rates in these cases. In addition, some estates are divided into multiple pieces but the 36 month access to graduated rates and some other items is only provided to one estate. The list of further implications of the new rules on estate and testamentary trust planning is lengthy and beyond the scope of a Tax Tip.
Think your current estate plan is safe because you’ve already implemented? Think again! The new rules will apply to all estate plans, even those already developed under the current rules. For example, the new rules will apply to an existing testamentary spousal trust. Effective January 1, 2016 such a trust will have to change to adopt a calendar year end and will lose access to the graduated rates it currently receives. The lack of relief from the new rules for pre-existing testamentary trusts will render prior estate planning less effective with no way to adjust since the person who created the plan is deceased.
So what does all of this mean for Canadians’ estate planning? Well, at a minimum, it means that any estate plans (implemented or contemplated) that include testamentary trusts, alter ego, joint partner trusts or gifts by will need to be reviewed to determine tax and practical efficiency on a go forward basis.
Make yourself a New Year’s resolution to contact your tax advisor and review your estate plan. The changes contained in the newly enacted legislation are monumental.
“We encourage you to speak with your tax advisor regarding the significant impact of these new rules”
New Legislation Will Affect Traditional Estate Planning (Part I)
New tax rules that received Royal Assent on December 17, 2014 will significantly impact past, present and future estate planning. This week we will address one change and next week, another, just to ring in the holidays on a cheerful note!
The new rules will significantly change the taxation of alter ego trusts, joint partner trusts and testamentary spousal / common law partner trusts, after 2015 (even if they were created prior to 2016). We last discussed alter ego trusts in Tax Tip 10-29 and previously discussed the tax implications upon death of the spouse or the last to die spouse in Tax Tip 10-16.
The current rules deem these trusts to have disposed of their assets on the date of the death of:
- The sole beneficiary for an alter ego trust;
- The last to die spouse or common law partner for a joint partner trust; and
- The spouse beneficiary for a testamentary spousal trust;
Currently, each of these types of trusts report the deemed disposition and include such income or loss at the end of the affected taxation year. The new rules will deem the affected trust(s) to have a new taxation year end at the end of the day of death.
In addition, the affected trust will be deemed to have paid out the income (including the deemed dispositions referred to above) to the deceased individual. Accordingly, instead of being taxed in the trust, the income from the deemed disposition and other items will be included in the deceased’s final income tax return instead of the trust’s.
What does this mean? Most notably, it means the deceased’s estate will be required to pay the tax instead of the trust (although the trust will be jointly and severally liable for the payment of the tax).
These changes are significant and traditional estate planning will now have to be reconsidered. For example:
- If the beneficiaries of the affected trust(s) are different than the beneficiaries of the estate of the deceased, inequities could arise. Will the executors be able to reconcile the two without breaching their fiduciary duties?
- If the province of residency of the deceased individual is different than the affected trust such disparity could increase the overall tax liability that was previously planned for. Will these changes require revision to a Taxpayer’s current planning and insurance strategies?
- In some cases, the affected trusts may own private corporation shares. Traditional planning involving such cases would ensure that the deemed disposition, upon death, of the trust’s assets would not result in double taxation when the corporation ultimately distributed funds to its shareholder, the trust. Will such traditional planning still work? This answer can only be determined on a case by case basis.
The Joint Committee on Taxation (of the Chartered Professional Accountants of Canada and the Canadian Bar Association) as well as STEP Canada raised these issues with the Department of Finance when the new rules were first proposed. At the Canadian Tax Foundation’s recent Annual Conference, the Department of Finance acknowledged the concerns but stated that no changes will be forthcoming. With the granting of Royal Assent to the unadjusted rules, this statement has been confirmed.
Stay tuned. There’s more to come next week.
TAX TIP OF THE WEEK is provided as a free service to clients and friends of the Tax Specialist Group member firms. The Tax Specialist Group is a national affiliation of firms who specialize in providing tax consulting services to other professionals, businesses and high net worth individuals on Canadian and international tax matters and tax disputes.
The material provided in Tax Tip of the Week is believed to be accurate and reliable as of the date it is written. Tax laws are complex and are subject to frequent change. Professional advice should always be sought before implementing any tax planning arrangements. Neither the Tax Specialist Group nor any member firm can accept any liability for the tax consequences that may result from acting based on the contents hereof.