Tax and estate lawyer highlights risks that occur when Canada’s lack of estate tax creates complacency
The fact that we don’t have an estate tax in Canada can be both a comfort and a hindrance in some estate plans. While no explicit estate tax is imposed upon death, estates do have the issue of a deemed disposition, whereby assets held by the estate are considered sold once the surviving spouse passes away. That can create a significant final tax bill for the estate with potential long-term legacy consequences if it isn’t planner for.
Errol Tenenbaum, managing partner and estate planning lawyer at Robins Appleby LLP, explained how these tax considerations can end up impacting Canadians, especially those with significant business assets. He highlighted the importance of liquidity considerations in estate plans and noted the ways advisors can support the estate planning process without stepping into areas reserved for lawyers.
“There's that deemed disposition. where capital gains are taxed significantly… that is the most significant tax that the average Canadian, especially with stock portfolio or a business, will have to pay,” Tenenbaum says. “It becomes a question of minimizing where possible or, conversely, ensuring that the estate has liquidity to pay that tax. Often the big issue is that a deemed disposition is a notional sale, but it’s not an actual sale and sometimes there’s no [cash]. You can have situations where people with large estates and significant assets are quite illiquid.”
The risk, Tenenbaum notes, is that estates full of highly valued illiquid assets are hit with tax bills that force the sale of significant assets. That could mean the sale of certain stock positions, which might mean out on missed appreciation opportunities. Even the loss of some of the liquid securities portfolio would be easier to manage and arguably less damaging than the forced sale of all or part of a family business. Given how illiquid the market for privately held businesses is, and the relatively short deadlines for payment of these final taxes, there are risks of selling a core asset for less than it’s worth or being forced to sell that asset in its entirety.
That tax bill, Tenenbaum explains, must be paid by the estate before it is passed to the next generation. That said, the next generation can be leveraged to help mitigate the estate’s terminal liability. Business owners with sufficient assets could elect to do an estate freeze, which would freeze the growth on the value of the assets held in their name, and all additional asset growth would occur under someone else’s name, normally the next generation. The growth under the original owner’s name would still be taxed, but the subsequent growth would only be taxed when the next generation passes away, deferring a significant chunk of that terminal liability.
For advisors, the fact of these terminal liabilities presents a planning challenge. While planning for the disposition of liquid securities is relatively simple, complexities arise when clients own businesses. Often times, Tenenbaum notes, those businesses are real estate based and have assets that have both accumulated in value and lack liquidity. When those assets have been held for decades, the capital growth and resulting tax bills can be significant. Advisors, he argues, need to be aware of these holdings to know how to help plan for any resultant liquidity issues.
Tenenbaum believes that advisors can work to avoid these issues for their clients by taking a more holistic approach. He suggests that advisors develop a full understanding of these tax issues as they pertain to these clients. At the same time, they need to stay cognizant of where they are not qualified to comment or provide advice. Tenenbaum argues that a collaborative approach can help, as advisors work directly with their clients as well as their clients’ lawyers and tax planners to develop the best possible overall plan.
The advantage advisors have in these scenarios lies in the depth and scope of their client relationships. They have the capacity and longevity in relationships to get to know their clients and what their clients need. They can use that base to understand exactly what clients need, what they could benefit from, and what already exists in their estate plans.
“It's knowing the basics, but knowing what you don't know, and ensuring that they get the help from those who specialize in the particular area,” Tennenbaum says.
