Two for One: Bequests to Both the Spouse and the New Partner

By Michelle Fong

It’s said that about 40% of Canadian marriages will end in divorce. So does that mean the other 60% remain happily attached until death? Probably not. It is not uncommon for people to separate and choose never to get divorced. In some cases, it’s because divorce is too costly. For others, the spouses may decide or be required to live in separate living accommodations (e.g., illness or age). In any case, that leaves a portion of married people who enter the dating scene with “it’s complicated” statuses. This article looks at the tax-deferred rollovers for when one of those people die and leave bequests to both their spouse and a new common-law partner.

A spouse, while not defined, is generally considered the person that the taxpayer is married to, whether they are separated or not. A common-law partner is the person with whom the taxpayer has been cohabiting with for at least 12 months while in a conjugal relationship.[1] With those definitions, it is possible for a taxpayer to have both a spouse and a common-law partner at the same time.

When a taxpayer dies, all of their capital property is deemed to be disposed at fair market value.[2] This can lead to a hefty tax bill owed by the Estate for all of the accrued capital gains. However, there is relief available when property is left to the deceased taxpayer’s spouse, common-law partner, or a spousal trust for the benefit of either.[3] Subsection 70(6) will deem the capital property to be transferred at cost instead, meaning no capital gains are recognized. In order to qualify, the taxpayer must have been a Canadian resident immediately before death, the property must have been transferred as a consequence of death, and the property must vest indefeasibly to the spouse or common-law partner within 36 months of the death. On at least two occasions, the CRA has made it clear that, so long as the transfer meets the criteria, the rollover provision will apply to bequests to both a spouse and a common-law partner of the deceased taxpayer.[4]

With all that said, this only addresses one (tax) facet when considering a whole estate plan. Under estate law, a separated spouse will be deemed to be predeceased in a Will[5] and spouses or adult interdependent partners[6] may claim support and maintenance from the Estate. This could lead to messy and costly litigation if the deceased did not ensure their intentions were clearly laid out and documented.

Our Wills & Estates team and Tax team can work cohesively to provide you with a wholistic estate plan. Please contact our office.

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[1] Income Tax Act, subsection 248(1), definition of “common-law partner”.

[2] Income Tax Act, subsection 70(5).

[3] Income Tax Act, subsection 70(6).

[4] 2014-0523091C6 and 2010-0373901I7.

[5] Wills and Succession Act, subsection 63(1).

[6] “Common-law partner” is a tax term, defined in the Income Tax Act for tax purposes. “Adult interdependent partner” (AIP) is a family law term, defined in the Adult Interdependent Relationship Act (Alberta) and is used for estate law purposes. Generally, an AIP is a partner whom have an interdependent relationship with while either cohabiting for 3 years or have a child together.

Dying Without a Will – Intestacy Leads to Inconvenience

By Lydia Roseman

Without a valid Will, after you pass, your estate will be considered “intestate”. This means that no one is entitled to manage or deal with your assets without permission of the Court, and legislation will determine who will inherit your belongings.

This is not ideal for a number of reasons, as will be set out in detail below. Importantly, intestacy can create significant costs and challenges for family members who would normally expect to benefit under a Will, and will mean you have no control over the final disposition of your assets.

Below we set out the circumstances that will lead to intestacy and exactly what will occur following death if there is no valid Will.

When does intestacy occur?

An individual is considered to have died “intestate” if there is no valid Will at the time of their death. The word “valid” is important here.

Sometimes an individual will leave behind a Will thinking that it complies with the legal requirements and will be binding on the their estate. However, without proper legal assistance, it can be quite easy to accidentally create an invalid Will.

To create a valid Will in Alberta, you must comply with the requirements set out in the Wills and Succession Act.[1] There are three types of valid Will under Alberta legislation:

•  a formal Will;
•  a holograph Will; and
• a military Will.

To be a formal Will, the will must be made in writing and must be signed by the testator and two witnesses, all in the presence of each other.[2] Generally if a lawyer is involved in the preparation and signing of your Will, you will have a formal Will.

A holograph Will on the other hand, must be made entirely in the testator’s own handwriting (it cannot be typed) and signed by the testator. No witnesses or any other formality is necessary.[3]

Finally, a military Will can be made by a member of the Canadian Forces on active service by signing it, without witnesses or other formalities.[4]

An example then of what would not constitute a valid Will would be a typed Will signed by the testator without a witness or with only one witness.

While a court may in limited circumstances validate a non-compliant Will, the applicant would need to provide “clear and convincing evidence” that the document was intended to be a Will and sets out the testamentary intentions of the testator.[5] This would likely involve a lengthy and costly court procedure, especially if others take an alternate view and argue against the Will’s validity.

 Who can administer your estate?

Generally, a valid Will appoints an executor who is entitled to deal with your estate. Where an individual dies intestate, there is no executor. Instead, someone will need to be appointed as the “administrator”.

Before any of your assets can be dealt with or distributed, someone will need to apply to the Alberta Court of Queen’s Bench to for a grant of administration. The Estate Administration Act[6] sets out who can apply and, if more than one person is interested, who will have priority.

Generally a spouse or adult interdependent partner (“AIP”) of the deceased will have first priority, then a child, grandchild, other descendant, parent, sibling, and so on. A person with priority can also nominate another person, and that nominee will retain priority. So, for example, a spouse’s nominee would have priority to apply to administer the estate over the deceased’s child.

While not necessarily particularly complicated, a court application will add time and expense to the administration of the estate.

 Who will inherit?

Without a valid Will, the deceased has no say in the distribution of his or her estate. Instead, the distribution of assets will be strictly governed by Part 3 of the Wills and Succession Act.

Under the Act, if the deceased leaves behind a surviving spouse or AIP but no descendants, the entirety of the estate will go to that surviving spouse or AIP. If there is a spouse or AIP and all of the deceased’s descendants are also descendants of the surviving spouse or AIP, then again the entire estate will go to the spouse or AIP.[7]

Where things get complicated is where the deceased leaves behind, for example, a spouse and children of a previous marriage. In that case, there will be a division of assets between the spouse and the children. The spouse will be entitled to the greater of 50% of the estate or $150,000.00.[8] The remainder of the estate will be divided among the deceased’s descendants “per stirpes” (which is explained below).

It is also actually possible for an individual to die leaving both a surviving spouse and a surviving AIP. This would occur where the deceased separated with their spouse[9] prior to their death but did not actually divorce that spouse, and then formed a new relationship which satisfied the definition of an AIP set out in the Adult Interdependent Relationships Act.[10]

In those circumstances, if there are no descendants, the surviving spouse and AIP will share equally in the estate. If there are descendants, the surviving spouse and AIP will split the greater of half of the estate or $150,000.00.

If there is no surviving spouse or AIP, the estate will be shared among the deceased’s descendants per stirpes. What does per stirpes mean? It means that the estate will be divided into as many portions as there are surviving children and predeceased children who left surviving descendants (that is the deceased’s child passed away but gave the deceased surviving grandchildren).[11] Each surviving child of the deceased would then take one of these portions, and the grandchildren of a predeceased child would share their parent’s portion.

To illustrate, imagine a deceased had two descendants, one who survived the deceased and one who died leaving two of his or her own grandchildren. In that case, the surviving child would receive 50% and the two grandchildren would each receive 25%. In this way, each “child” receives an equal share, even if it is through their own descendants.

The final possible situation is that a deceased dies leaving behind no spouse, no AIP and no descendants. In that situation the estate will go in its entirety to the following individuals, in descending priority:

• the deceased’s parents;
•  any descendants of the deceased’s parents;
• the deceased grandparents or their descendants.

Conclusion

As you can see, dying intestate means a lack of control over the distribution of assets. Beyond simply not being able to choose their heirs, the deceased also loses out on all the potential advantages that come with a good estate plan.

For example, when planning ahead of time, an individual can strategically decide how to distribute his or her assets on death to minimize taxes and maximize the benefit to their heirs. When dying intestate, there is no flexibility to do this kind of preemptive tax planning.

Intestacy also adds potential stress and cost to family members by requiring them to apply for a grant of administration. Until a grant is obtained, no one can deal with the deceased’s assets. This can be a serious issue where the deceased held all the family assets solely in his or her name and family members depended on that person for financial support. That time lag could have serious consequences.

We therefore strongly recommend that all individuals prepare Wills, especially where they have a complicated family situation or have dependants who rely on them for financial support. As discussed above, a lawyer can help make sure you meet all the necessary legal requirements for creating a valid Will, avoiding all of the issues that come along with intestacy. Early and well-advised estate planning can also have a myriad of other benefits.

Any of the members of our McLennan Ross Wills & Estates team would be happy to discuss your estate planning needs with you.

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[1] SA 2010, c W-12.2 [W&S Act].

[2] Ibid, s 15.

[3] Ibid, s 16.

[4] Ibid, s 17.

[5] Ibid, s 37.

[6] SA 2014, c E-12.5, s 13(1)(b).

[7] W&S Act, s 61(1)(a).

[8] Ibid, s 61(1)(b); Preferential Share (Intestate Estates) Regulation, Alta Reg 217/2011, s 1.

[9] Note, however, that if the spouse and deceased were separated for more than 2 years prior to the deceased’s death, the W&S Act, section 63, deems that spouse to have predeceased the deceased.

[10] SA 2002, c A-4.5, ss 1(1)(a), 3.

[11] W&S Act, s 66.

The Pitfalls of Using Joint Ownership as an Estate Management Strategy

 By Lydia Roseman

One of the goals of estate planning is the management of assets while an individual is still alive but has lost the ability to manage their assets on their own (commonly referred to as losing capacity). We recommend coming up with a plan as to who will manage your assets, and how, long before capacity becomes an issue.

Commonly, an individual getting close to this stage and wanting help managing their assets will simply add a child, or another trusted individual, as a joint owner of their assets. While this may seem like a simple solution, this strategy is rife with issues.

This article will address some of the issues with using joint ownership as a strategy for managing assets, both during the original owner’s life and upon their passing. It will then discuss an alternate asset management tool: the Enduring Power of Attorney or “EPA”, a specialized legal document designed for precisely this situation.

Joint Ownership

    Issues during the original owner’s life

What do we mean by joint ownership? Joint ownership occurs when assets are held jointly in two or more individuals’ names. For example, if a senior individual has a bank account and adds their child to that bank account, they will become joint owners.

While the intent of this might simply be to allow the child to pay bills on their behalf or make deposits or withdrawals, the reality is much more complicated. Once both names are listed as “owners” of the account, the legal assumption is that the account is equally owned by the two individuals. The child then has equal authority to deal with those funds. There is no automatic requirement that the child must use the funds solely for the benefit of the parent.

This means that the child could theoretically remove all funds from the bank account and it would be very difficult or impossible for the parent, or another interested party, to reverse these transactions.

Joint ownership also opens the asset to potential claims of third parties as against the additional owner. For example, if the joint owner declares bankruptcy, creditors may be able to realize against the asset held jointly. Or, more commonly, if the joint owner goes through a divorce (or a separation from an adult interdependent partner), their partner may have a family property claim against the asset.

It is also extremely difficult to undo the joint ownership as a whole. Once you have added someone to your bank account, or title of your house, you cannot simply elect to remove them without their consent. For all intents and purposes, they are an equal owner of the property.

Finally, it can take significant time to transition all of one’s assets into joint ownership. There is no one call to make or form to submit to add another individual as a joint owner on all of one’s assets. Each bank account, house, vehicle, or other investment or physical asset would need to be dealt with individually.

    Issues following the original owner’s death

The other point to consider is what will happen to the assets held jointly upon the original owner’s passing.

Once the original owner passes away, the “right of survivorship” applies to make the other named individual the sole owner of the asset. This means that the funds in the account will not form part of the deceased’s “estate” and will not be distributed in accordance with the Will. Instead, the property will become entirely the property of the joint owner.

This means that an individual using the joint ownership strategy can unintentionally cut a beneficiary out of a very substantial part of their estate.

It may be possible for the remaining beneficiary(ies) to argue before the Court that the deceased’s intent was not to leave the asset entirely to the named individual but rather that the funds are held in trust by that individual for the estate. However, without some written documentation of the testator’s intent, this can be an extremely challenging argument to make. Even if the spurned beneficiaries are ultimately successful, this would mean a lengthy and expensive court battle and unnecessary conflict between beneficiaries.

As the old saying goes, only two things in life are certain, death and taxes. But what does death mean for taxes when property is held as joint owners?

Let’s use the example of an individual with two children whose substantial assets are a house and a bank account, both of which are worth roughly the same value. The individual decides to put the house in both his and his daughter’s names so that the daughter can help with management of the house. To compensate for this, the individual is leaving the entirety of the contents of the bank account to the son in his Will.

Upon the individual’s passing, Canada’s tax rules deem the testator to have sold the house at its current fair market value. There will likely be a large capital gain on the house, assuming it has gone up in value since its purchase. These tax consequences will belong to the deceased’s estate; they do not attach to the house.

This means that there will likely be a substantial tax burden that must be paid out the estate’s remaining property, i.e. the bank account. The end result is that the daughter gets the full value of the house without paying any of the tax consequences, while the son is left only with the funds in the bank account after the taxes have been paid. The tax consequences could erode a substantial portion of the value left for the son.

This leads to the unintentional result of a very unequal division of assets.

The Enduring Power of Attorney

An EPA is a legal document under which an individual appoints an attorney to manage all their assets. The EPA is drafted by a lawyer and is signed by an individual either to immediately take effect or to take effect at some later date, once the individual has lost capacity.

We typically recommend drafting these documents well in advance of loss of capacity with a future “triggering event” which will bring the EPA into effect. This “triggering event” can be a statement in writing of the testator intentionally bringing the document into effect, or it can be a statement from one or more doctors that the testator no longer has capacity to deal with their assets.

Following the coming into effect of the EPA, the attorney is able to manage all of the owner’s assets. The most important benefit is that the EPA will not affect the underlying ownership of the assets. While the attorney has the ability to manage the estates, dispose of them, buy new investments, etc., everything remains the property of the original owner.

Further, the attorney owes a fiduciary duty to the original owner meaning that the assets must be managed solely for the benefit of the original owner.

There are also clear mechanisms for the individual, or other family members or interested parties, to bring forward an application to the Court if they believe that the attorney is mismanaging the funds. The attorney is statutorily obligated to maintain records of how they have dealt with the assets and the EPA can even build in reporting requirements whereby the attorney has to keep other family members appraised of his or her decisions. There is therefore much clearer and more substantial protection for the original owner.

It is also possible to undo the coming into force of an EPA. For example, if an individual temporarily loses capacity due to a car accident, the EPA could come into effect. However, once that individual regains capacity, if a medical professional declares that individual competent, that individual can regain control over their assets.

Finally, the EPA will not impact the distribution of property on the individual’s passing. As the assets never become the attorney’s property, the assets will entirely be dealt with under the deceased’s Will. This avoids unintentional unfairness between beneficiaries.

Conclusion

In conclusion, there are many potential issues when it comes to using joint ownership as a tool for asset management. The joint ownership strategy puts the original owner at the mercy of the joint owner, is almost impossible to unwind, and can lead to unintended consequences for the ultimate beneficiaries of the individual’s estate.

We therefore strongly recommend using an EPA as an estate management tool instead of relying on joint ownership. While there is some up front cost to preparing an EPA, it gives the individual much more control over how their assets will ultimately be managed. Importantly, there are significant built in protections which require the attorney to manage the assets for the benefit of the individual. Finally, the EPA does not impact the underlying ownership of the assets avoiding any unintended consequences upon the individual’s passing.

Our Wills & Estates team would be happy to prepare an EPA for you and to answer any questions you may have. Remember, it is never too early to start thinking about estate planning.

Planning for Death in Business: Capital Dividends and Unanimous Shareholders Agreements

By Michelle Fong and MaryAnne Loney

Making a plan for the storm when the weather is still good is the fundamental basis of estate planning and business succession planning. It allows everyone involved to set out their intentions, have open and clear communications, and set a plan in place that they feel will allow their successors to succeed.

One of the key tools used for this planning is a unanimous shareholders agreement (“USA”). Where estates and businesses intersect is often in the buy-sell options upon death and life insurance clauses in a USA.

The buy-sell upon death clause typically requires the estate to sell the shares of the corporation back to the corporation at a fair or agreed price. But how will the corporation fund the repurchase? That is where life insurance and capital dividends come in.

Corporations may take out life insurance on the lives of the shareholders. Upon the death of a shareholder, the insurance proceeds will be paid to the corporation and be added to the capital dividend account balance.[1] The capital dividend account represents amounts that a private corporation[2] may pay out to shareholders as tax-free dividends, called “capital dividends”.[3] The capital dividend account is maintained “on-paper”. It is not a dollar balance that appears on financial statements or tax returns.

The corporation will then use the insurance proceeds to repurchase the shares. However, in fairness, the corporation should elect that the addition to the capital dividend account as a result of the insurance proceeds should be used to repurchase the shares. This allows the estate to then receive those funds as tax-free capital dividends. If the life insurance proceeds are insufficient to cover the entire repurchase price, the difference will usually be treated as a taxable dividend.

This is helpful for the corporation, as it provides a means to deal with the shares of deceased shareholders, and it is helpful for the estate, as it provides a tax efficient way to deal with the shares of a private corporation.

However, unless a USA obligates the corporation elect that capital dividends be paid out as part of the repurchase, under corporate law, the corporation can theoretically keep the capital dividend account balance for the other shareholders, leading to significantly worse tax results for the estate. Since this is usually not the parties' original intention, this regularly leads to expensive litigation.

Therefore, when estate planning for individuals who own shares in private corporation, not only will the individual’s will be important, but also a USA for the corporation. You should contemplate including in a USA clauses that:

1.    require or permit the corporation to maintain life insurance on the lives of the shareholders;

2.    gives the corporation an option to repurchase any shares owned by the deceased shareholder at the time of his/her death from his/her estate;

3.    set outs a formula or definition for the repurchase price for the above-mentioned option that is reasonable for both the estate and the corporation;

4.    sets out that the repurchase price paid will be designated as a capital dividend to the extent that the capital dividend account balance was increased by the receipt of life insurance proceeds related to the deceased shareholder.

It is worth remembering that the cost of establishing a proper USA prior to death can save the estate and corporation significant litigation and/or tax costs after death. McLennan Ross has an experienced and talented Wills & Estates Team as well as a skilled Tax Team able to assist you with estate and business planning and its related tax implications.

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[1] Income Tax Act (“ITA”), subsection 89(1). Other items that are included in the capital dividend account include the non-taxable portion of capital gains, and capital dividends received from other corporations.

[2] ITA, see definition in subsection 89(1). Generally, a Canadian resident corporation and not controlled by one or more public corporations, prescribed federal Crown corporations, or any combination thereof.

[3] ITA, section 83.