What fun would RRSP season be without a course to keep the pressure on? And if one is good, then three is surely better. One of the courses I’m taking right now is Advanced Estate Planning. I find it fiercely interesting – not like that Advanced Taxation course I took last winter. That was gross.
One of the interesting topics has been adding adult children as joint names to title, most notably on real estate and bank accounts. The theory goes that adding a joint name to the title will save probate fees, and assets will move around the Will so they can’t be contested. Really just a nice way to control the distribution of assets, and it can be helpful if you want someone else to help deal with your affairs.
I don’t want to say “don’t do it ever”, because every rule has exceptions, but before you add your adult children as a joint owner on any of your assets, make sure that you have consulted an estate planning professional.
One potential issue is the lost tax planning opportunities. In Canada, principal residences are exempt from capital gains taxation. When an adult child is added as a joint owner to a principal residence, then a portion of the property will no longer qualify for the exemption. When we’re potentially talking about hundreds of thousands of dollars that would otherwise have been sheltered, the lost tax savings can be significant.
Even if the property isn’t considered a principal residence, or if it’s an investment account, adding an adult child as a joint owner will trigger unrealized capital gains on the property at the time of the transfer, which may be earlier than intended. As example, if an adult child is added as a joint owner on a cabin with the intent of eventually passing the cabin to that child, a capital gain would be triggered and the tax owing would have to be paid out of other savings. In addition, the realized capital gains could result in government benefits being clawed back – even if there wasn’t any additional income actually received.
If instead the cabin is sold to the adult child for the same price as the parent originally paid for it (so there is no gain), that actually makes things a lot worse. The CRA will still require taxes to be paid on the gain as if the property was sold for fair market value. In addition, the adult child will only be able to claim the price they paid as their cost base, which means when they later sell the asset they’re going to be taxed on the same property, resulting in double taxation. The notable exception to this is qualifying farm property, which can be sold to a child for less than fair market value.
If tax issues aren’t enough of a deterrent, the estate consequences may be. For example, maybe instead of adding one child as joint owner to the cabin, both of the parent’s two adult children are added so neither child receives preferential treatment. In this situation, if one of the children predeceases the parent, the surviving child would inherit the entire property. There are two consequences of this. The first is that any children of the predeceased child (grandchildren of the original owner) are completely disinherited and don’t receive any value from the asset. But the kicker is that the deceased child’s estate still gets a tax bill for the capital gains on the property, since it was owned by the child at the time of their death.
The potential for disinheritance becomes an issue on bank accounts as well. While the law assumes that the joint ownership is for management purposes only and therefore the assets still form part of the estate, this can be challenged. If the court can be convinced that the asset was a form of payment to the child for their services in managing the parent’s affairs, then the account could go directly to the child in joint name, without affecting their ability to claim an equal share on the rest of the estate.
And finally, adding children as joint owners to a property could potentially expose that property to the matrimonial property claims from the spouse of a child, or, if the property was mortgaged, it could result in a breach of contract and lead to the non-payment of a mortgage insurance policy.
These pitfalls can be traumatic for parents who were just looking for a way to simplify their estate planning, but still required full use of their assets to maintain their standard of living.
One potential solution is to establishing a formal power of attorney document (which really everyone should have anyways). The Power of Attorney can provide the owner with the flexibility and control that they are still looking to maintain, and it can cost a lot less than the unintended tax consequences or lengthy legal disputes that come from working without professional advice.
The second solution is to make sure your Will is updated. If you are adding children as joint name to your property, make sure that you specify that this is for management purposes only, and the value is to be considered in the ultimate distribution of the estate. You can also add that any property in joint name that is intended to go to that child is to be kept separate so as to preserve its status as an inheritance. This way, it would not be subject to any matrimonial property claims.
And finally, if your assets are significant enough to warrant the extra costs, or if the possibility of your Will being contested is “imminent”, then consider an alter-ego or joint partner trust. With a trust you’d still have the rights to your property and income from the property while you’re alive, and the trust would control the distribution of the property on your death. You have to be at least 65 years old to set one up, but assets can be transferred to the trust without realizing any capital gains, and they won’t be tied up in the probate process or subject to contestation. Trusts are an advanced estate planning tool, so be sure to consult an estate planning specialist if this is a direction you are considering.
If you have questions on how to simplify your assets to make it easier on your estate, or for more information on advanced estate planning techniques, speak with a Certified Financial Planner today.
Written by Meagan S. Balaneski, CFP, R.F.P.
Meagan S. Balaneski, CFP, R.F.P CERTIFIED FINANCIAL PLANNER® Advantage Insurance & Investment Advisors Investment Funds Representative Manulife Securities Investment Services Inc.
The opinions expressed are those of Meagan S. Balaneski and may not necessarily reflect the views of Manulife Securities Investment Services Inc.