Financial planning specialist on initial steps an advisor should take and the dangers of 'equalization payments'
Valentine’s Day is fast approaching but, for many, relationships have been frayed and ended by lockdown.
Separation and divorce are not alien situations for advisors to guide their clients through, of course. All advisors should anticipate clients experiencing a relationship breakdown at some point.
However, in part one of her interview with WP, Christine Van Cauwenberghe, vice president of tax and estate planning and advanced financial planning at IG Wealth Management, believes that, sadly, when lockdown ends this could be a bigger issue. She beleives many people are in a “holding pattern” and won’t make that final decision to separate from their partner until there is more freedom to move around.
When a client comes to an advisor as they go through a separation, the first point of order should be a compliance one - the advisor needs to confirm with both parties who they will represent.
“Hopefully, it will only be one," Van Cauwenberghe said. "If they're insistent that you continue to represent both, you need to check with your organization to ensure that's allowed. In most cases, it would only be allowed if both parties consent to the conflict (of interest).
“Even in situation where you are technically allowed to represent both parties, I'd highly recommend against it. There are a lot of couples who say at the very beginning, ‘we're going to try and keep things civil’ but things can deteriorate pretty quickly.”
She added: “It’s important from the outset that they both each have their own independent financial planners.”
Once that’s resolved, clients should be advised to speak to a family lawyer as soon as possible. There can be limitation periods and issues that arise. Often, people are in shock or denial for weeks, months or even years before things are dealt with.
On the financial side, Van Cauwenberghe said it’s vital to “stop the bleeding” from the date of separation. Any joint lines of credit should be cancelled. For example, if one person is the primary credit card holder and their spouse is the secondary holder, the primary is responsible for all the credit charges incurred by the secondary card holder.
If either party is in receipt of any sort of government benefits, Service Canada should be informed of any change in marital status. Each party will likely now need their own new financial plan, which would include projections based on them as individuals rather than as a couple. Sadly, that may mean one party habving to go back to work and earn more income than they originally anticipated.
A division of assets – or equalization of assets - is also required. Each party is required to take an inventory of all their assets so it’s clear what they each own. Married couples in Canada are generally entitled to a division of assets, while for common law couples, it will depend on where in the country they live.
The “equalization payment” can be paid in a number of different ways, including transferring over RRSPs on a tax-deferred basis in the case of separation, which is a unique situation. Normally, you can't just transfer RRSPs over to your spouse without withdrawing and paying tax. However, an exception in the Income Tax Act allows you to do this, although there are certain conditions that need to be met, including a written separation agreement.
Van Cauwenberghe explained: “Clients need to speak to a family lawyer to understand what those rules may be. The other reason why it's important to speak to a family lawyer, and for the financial advisor to work with a family lawyer, is because not all assets will have the same value after tax.
“Let’s say one party owns the home, which is worth, net value, $500,000. If the other spouse owns $500,000 in RRSPs, that is not a tax paid amount. Hypothetically, if the $500,000 RRSPs are only worth $300,000, after tax, you can see why it wouldn't be very fair if one spouse kept the $500,000 home and the other spouse kept the $500,000 RRSP.
“Even though the face value is the same, the after-tax value is different. You need to make sure that you are comparing apples to apples when you're dividing your assets, and that is something that you need to work through, potentially even with a tax accountant, depending on the value of the assets.
“Sometimes people have very valuable assets. They might own a family business or real estate, and those are the issues that need to be worked through when you're trying to determine who owes what to whom.”