- Wealth preservation, means
the various ways in which the money we earn and the assets we build up
can be protected against creditors and taces. Accountants and lawyers
can usually assist in planning techniques to preserve your hard-earned
estate.
- Succession planning, refers
to the manner in which the assets you still retain at the time of your
death are passed on to your spouse, children and other heirs to
protect and provide for them. Taxes, probate taxes, creditors, court
costs, family disputes and other risks must be identified and avoided
in the planning process. Here again, lawyers and accountants are the
professionals best trained to ensure your estate flows effectively to
your chosen beneficiaries.
It is becoming increasingly
important to make plans now for the eventual passing of an estate to the
next generation. Capital Gains Taxes, probate taxes and the threatened
Wealth and Inheritance Taxes all combine to create a hostile environment
for children in which to inherit form their parents.
This is not to say that we should hoist the
white flag and voluntarily donate all of our assets to the various
levels of government! There are many approaches to limit the exposure to
tax. One route that has been mentioned before is for parents who have
real estate (other than their own home) to transfer the property to
children. Properly handled, this can result in substantial savings of
Capital Gains Taxes as compared to leaving the property to the children
in a will. Anyone with a cottage, commercial property, rental units or
even vacant land should consult a lawyer or accountant without delay to
determine how much tax can be saved by this transfer.
Another popular technique is for a spouse who owns
real estate in his or her name alone to transfer it into joint tenancy
with the other spouse. This low cost step will not save any Capital
Gains Taxes, but it will avoid payment of probate taxes on the value of
the property on the death of one of the spouses.
Despite the fact that there are frequently benefits
to such family transactions, they are not always appropriate. We were
once requested by a widowed client to transfer her house into joint
ownership with her children. She wanted to ensure that the house
transferred to her children without payment of probate taxes.
We advised her not to do this as there was a
detrimental aspect to this plan that more than outweighed the benefit.
The home was her princpal residence, and as such all capital gains are
completely exempt from taxation. If the house remained in her name, it
could be transferred to her children or sold following her death without
the estate being liable for any Capital Gains Taxes whatsoever.
Had we changed the title into joint ownership with
her three children, the result upon her death would be very different.
If the house increased in value by even 10% between the date of the
change in title and her death, and was then sold, the Capital Gains Tax
paid would significantly exceed, and perhaps even double, the predicted
probate costs. The reason is that only the mother's one quarter
ownership would qualify for exemption as a principal residence, and the
three quarters owned by the children would be subject to capital gains.
Successful estate planning cannot be purchased from
a shelf or learned from a book. It requires the involvement of a team of
expert people with the common goal of creating, managing and protecting
your wealth. However, the most important "expert" for your own financial
well being is you.
We have all heard the phrase, "You can't take it
with you." This may be true, but it does not necessarily mean that your
affairs should be arranged to give it to the government when you die
Most people, in their Wills, leave their estates to
their spouse. Most go on to say that if the spouse has already passed
away then the estate goes on to the children.
This is sensible planning, but prudent drafting of
the Will should include protection against double probate.
Double probate is the unhappy result of a tragedy.
If both husband and wife die simultaneously or within a short time of
each other, all of the probate taxes and legal costs will be incurred to
administer the estate of one spouse. Then that estate is turned over to
the other spouse's estate. The second estate is then administered,
resulting in duplication of probate taxes and legal costs before the
children inherit.
Since the provincial government tripled the probate
taxes in 1992, this adds insult to injury. No one wants to have
thousands of dollars unnecessarily diverted from their loved ones to the
government.
Fortunately, there is a simple solution available to
minimize this problem. The Will can include a clause that states that
the spouse only inherits if he or she survives the death of the first
spouse by a certain period of time.
Determining how long a period of time should be
provided requires a balancing of the wish to ensure that the spouse does
live long enough to inherit, against the risk of an undue delay in the
administration of the estate. For example, a typical "double probate"
clause will provide that the spouse must survive 30 days before
inheriting. However, this may be too long. If a real estate transaction
is in progress, or if investments must be dealt with, or if bank
accounts are in the name of the deceased spouse only, forcing a wait of
one month before even starting the process of probate and administration
may cause serious difficulties. It is not unknown for the surviving
spouse in these circumstances to have to borrow to pay bills and buy
necessities until things get under way.
We normally recommend a 10 day period in the "double
probate" clause. Usually this is a sufficiently short a wait that no
hardships arise. However, if the spouse is still alive then he or she is
likely to survive indefinitely.
If you have a Will, we suggest that you check your
copy to ensure that it has appropriate protection against the perils of
double probate. If you can't find your copy, then you certainly should
obtain a copy and conduct a thorough review. If you don't have a Will at
all, the government will be very pleased, as you have "arranged" your
affairs to maximize the probability of payment of maximum probate taxes!
When we discuss estate planning with our clients, we
do not stop after reviewing the Wills and the Powers of Attorney.
Usually the discussion continues to analyze the estate to avoid or
minimize probate taxes.
Probate taxes are taxes, despite the more palatable
but misleading reference to "fees". Upon death, when the executor
applies for court authority to deal with the estate assets, the court
charges probate "fees". The fees start at $5 per thousand on the first
$50,000 and then triples to $15 per thousand on everything above
$50,000.
One common way to avoid probate taxes upon the death
of a spouse is to ensure that assets are jointly owned. When one spouse
dies, ownership of the asset passes to the surviving spouse. Since this
does not happen through the Will, but through right of survivorship, the
probate taxes do not apply.
Accordingly, it generally makes good sense for
spouses to hold their assets in joint ownership. The family home and
bank accounts are commonly held this way.
Frequently, investments such as GICs or Canada
Savings Bonds are not. The reason given for this is the wish to keep
these income producing assets in separate names so as to allow each
spouse to report their own income on their own tax returns. The same
money comes into the family, but because it is divided between the
spouses the effective rate of taxation is lower. This income splitting
should produce more after-tax disposable dollars for the family.
The fear of losing the income splitting advantage by
joint ownership is unfounded. You can have your cake and eat it too. The
investment can be in joint ownership to avoid provincial probate taxes,
and the advantage of income splitting can be retained for federal income
tax purposes.
We recommend to all our clients that the investments
be changed into the names of both spouses, with right of survivorship.
There should be no charge for this, although with Canada Savings Bonds
this has to be done during the annual sale period.
For ease of reporting at income tax time, we suggest
that the husband put his name first on his investments, and the wife
puts hers first on her investments. Then, when the T5 information slips
are provided for tax reporting, it is easy to tell what income is to be
reported in each spouse's income tax return.
The benefit of the joint ownership is primarily
probate tax savings. On a $50,000 GIC, the savings to the surviving
spouse may be as much as $750. As well, the transfer of the asset is
simpler and quicker.
Remember, the joint ownership technique of avoiding
probate taxes works best for spouses. It is not recommended between
parent and child, without additional protective steps. Otherwise, the
parent may suffer loss of control and be exposed to creditor risks,
while the child may have income tax problems. If you wish to use joint
ownership between parent and child, please see your lawyer for the
appropriate protective measures.
We all hope to
arrange our affairs to minimize probate taxes and simplify our estate
administration. These are worthwhile goals, and many
look to joint ownership of property and investments as the
solution.
Joint ownership of assets is often recommended for spouses. However,
joint ownership of assets has hidden pitfalls if children are
involved.
I have frequent
requests by a widow to put her house in joint ownership with one or more
children.
Usually I try to convince her not to take this step. The problem
is that when the house is sold, either during the mother's lifetime or
after her death, capital gains taxes may have to
be paid.
While Mom is the sole owner, the whole gain is exempt because the
house is her principal residence. If she owns only 50% of the house
because of the change to joint ownership, then capital gains will be
triggered on the child's half. The capital gains tax payable, even on
half the value of the property over a relatively short time, is almost
certain to be more than probate taxes avoided.
What about joint
ownership with children of other assets, like Guaranteed Investment
Certificates?
Again, this may result in serious problems. To cash or
renew the GIC on maturity, the child's signature will be required. This may be
easy and quick, or it may be inconvenient and delayed. In a worse
case situation, the child may be incompetent or refuse to
co-operate.
Either way, the parent has lost control of the asset.
Another problem is
the risk of exposing the parent's assets to the child's financial
difficulties.
If a judgment is obtained against the child, or if the child goes
bankrupt, then the jointly owned GIC will be vulnerable to the
creditors.
The child may have
tax problems from jointly owned investments as well. Since the
child's name is on the investment, the tax information slips will be in
both names as well. Revenue Canada may take the position
that the child should include half the income in his or her tax return,
even though all income was retained by the parent.
Some still insist
upon joint ownership of investments. If so, they should have a Joint
Ownership Trust Agreement prepared and signed that will avoid the
problems.
I do not mean to
say that joint ownership of assets with children is never appropriate.
The point is that no single solution will work well in all cases. For joint
ownership, the technique that worked so well to pass assets from spouse
to spouse at minimal cost and delay may actually create greater problems
if used with children.
Registered Retirement Savings Plans are considered
by many to be the Canadian taxpayers' best friend. A contribution to an
RSP has the effect of reducing your income for that year. Reduced income
means less income tax to pay. If your income tax has been accurately
deducted at source by your employer, then your RSP contribution will
result in a refund. The refund permits you to increase your savings, pay
down your indebtedness, or spend on a consumer purchase. Whichever
option you chose will be more appealing than leaving that amount with
Revenue Canada.
The reduction in payment of income tax is attractive
by itself, but there is a further benefit to putting money into an RSP.
The income generated within the RSP is not taxed so long as it remains
inside. This means that it compounds annually on a tax free basis. If
you earn $1000 of interest income outside an RSP, and your marginal rate
of taxation is 42%, then only $580 of that interest is available after
tax for reinvestment the following year. By contrast, if the same income
is earned within the RSP, all $1000 will generate income the next year.
With these double advantages, it is not surprising
that Canadians have quadrupled their RSP contributions since 1982, to 20
billion dollars. What is surprising is that many Canadians have not made
maximum use of their RSP contributions.
Early
contributions
Given the remarkable effect of compounding income,
and the extra benefit of tax free compounding within the RSP, the best
gift you can give yourself is to start your RSP contributions as early
in life as possible. The best possible time to have started is 20 years
ago, but the next best time is now.
In addition to starting the contributions as early
in life as possible, it is also extremely beneficial to make the
contribution as early in the year as possible. You do not need to wait
until the cutoff date in February to make your contribution. The
contribution for that year could have been made 13 months ago, in the
previous January. Then the money would have had over a year to compound
on a tax free basis.
Many employers and financial institutions provide
for a monthly contribution toward your RSP. This is a simple way to
ensure your contributions are made, and made in a timely fashion.
Carry
forwards
Many people have not contributed the maximum
entitled amount each year. Fortunately, we are permitted to carry
forward any unused contributions since 1991. Accordingly, you may have
"room" to contribute much more to your RSP than the limit of a
particular year.
If you have made your contribution limit this year,
but did not in the last few years, then the unused amounts can be
contributed now. This carry forward contribution will also reduce this
year's income and tax payable, just like your usual annual contribution.
As well, the carry forward contribution will generate and accrue
interest on the same tax free basis. Of course, when any money is drawn
out of the RSP, it is then treated as taxable income.
Every taxpayer should find out how much extra room
he or she has to contribute to the RSP because of the carry forward, and
make every effort to use up that contribution room. If you have some
money in investments outside the RSP, like a savings bond or GIC, it can
be rolled into your RSP. This will trigger a tax reduction this year,
and permit the income to accumulate tax free from now until you draw it
out of the RSP.
If you find that you have room, you can make your
RSP carry forward contribution at any time. The cut off date of March 1
does not affect this. Remember that many existing investments, like
Canada Savings Bonds, stocks and GIC's can usually be rolled directly
into your RSP. From that moment on, all income will accumulate and
compound tax free, and you will no longer receive those pesky T5's to
add to your income and trigger tax payments from your pocket.
Overcontribution
Even if you have filled up all of
the "room" in your RSP, you are still entitled to overcontribute by some
$2000. If you have an existing investment with income that you are
presently paying tax on, it may be that you can roll it into your RSP as
an overcontribution. From then on, it will compound tax free. The sooner
you can fill your overcontribution amount, the richer your retirement
will be. That $2000, with an average return of 8% per year compounding
tax free in your RSP will be $8000 after 20 years. Outside your RSP,
with a marginal tax rate of 42%, the same investment will only leave you
with less than $5000 over the same period.
One of the estate planning questions we are asked
most frequently, both by clients and at seminars, is: "What is the best
way to leave my house to my children?"
This is a very good question to ask, since the
family home is often the single largest asset in the estate. If no
planning is done, the house passes through the will to the children. The
advantages are that there is no cost now to this "planning," and the
parents can change their minds and sell the house without any obstacles
should they need or want to do so. The disadvantage is that the estate
will likely pay probate taxes (over $2000 on a $135,000 house). In
addition, there is the threatened Inheritance Tax to consider.
What are the alternatives? There are three basic
options, each with their advantages and disadvantages.
Parents are expected to provide for their children
while they are growing up and acquiring their education and job skills.
Even when children are adults and self-supporting, parents often provide
further financial assistance. This generosity can sometimes result in
serious family problems after the parents die. One of our recent estate
files provides an excellent illustration of this.
Our client, a widower, had passed away leaving a son
and daughter. Over the years he had given his daughter loans for various
purposes. He had never charged interest or demanded repayment, but from
time to time, as she could afford it, the daughter had repaid portions.
Following our client's death, the son located a list
of loans and repayments, showing a balance of about $12,000 still
outstanding. When he approached his sister, she told him that really she
owed only about $8,000 and that their father had forgotten to record
some payments over the years. Unfortunately, she was unable to provide
clear proof of this. She had not demanded receipts of her father, nor
kept precise track of dates and amounts of payments, since it was "all
in the family".
The son and daughter were able to hammer out a
compromise. Although the sum involved was not huge, the effect on their
relationship was devastating. To this day, the son harbours a suspicion
that the daughter had not really repaid the amount she stated and
accordingly cheated him out of his fair share of the estate. The
daughter's feelings were badly hurt that her story was not accepted
without question, and she feels that she was bullied into paying back
more than her actual debt.
Needless to say, this is a terrible inheritance to
leave to your children, and one that can be avoided. If loans have been
made, the Will could state that all loans to children outstanding at the
date of death are forgiven. This avoids disputes over the amount to be
repaid, but it also contains a potential time bomb. If one forgiven loan
is larger that those to the other children, the effect is that one child
will have received a larger portion of the estate. You may think this is
perfectly justifiable, but you should also acknowledge that this
situation might well leave a legacy of resentment or guilt once you are
gone.
The fairest solution, if loans are made to children,
is simply to keep good records of the loans and the repayments, and to
have the child confirm in writing the actual balance from time to time.
Usually, the outstanding loan can then be adjusted out of the net
estate, without difficulty or dispute. The result is that all children
will receive equal benefit from the estate, thus avoiding sibling
strife. This is certainly an area where an ounce of prevention is worth
a pound of cure.
Trust Yourself!
New Ways to Protect Yourself, Your Spouse and
Your Family from Taxes
Will Rogers, the noted American humourist, once
said: "The difference between death and taxes is, death doesn't get
worse every time Congress meets." Will was nobody's fool, and so when
our federal government announced changes to the Income Tax Act in June
2001, the first instinct is to scurry to clasp our purses or clutch our
wallets.
This is a natural reaction to tax legislation, particularly when
the government stops crowing about budget surpluses and starts warning
about holding the line on budget deficits!
A suspicious attitude
to tax changes is usually justified, but these recent amendments are the
exception that prove the general rule. They actually provide battered senior
taxpayers with a new way to reduce their taxes. Don't rush
off to send your MP a note of thanks just yet, though. In typical
government fashion you have to die to take advantage of the tax
break.
The significant change to the legislation allows
Canadians over 65 the use of a special type of trust technique. It is called
an Alter Ego Trust if used for yourself, or a Joint Partner Trust if
employed to benefit you and your spouse. The actual change to the legislation
is technical, but the result is beneficial. Now you can
transfer into this Trust any assets you choose without triggering a
capital gains tax liability. This includes investments like stocks
or mutual funds, as well as cottages, rental or other real estate
properties.
Assets without capital gains can also be placed in the trust,
such as your home, your bonds, GICs, and bank
accounts.
How
it works
What does "Alter ego" mean? It is Latin
for "one's other self", and that's what this type of trust really is,
just an extension of your own self. You create it, you select which of
your assets you wish to put into it. You get all of the income and value,
you personally control it during your lifetime, you can move
assets in and out whenever you please. After your death, you decide who gets
what's left over.
A Joint Partner Trust works the same way as an Alter
Ego Trust.
One or both of the spouses will be the trustees, making all of
the investment and operation decisions. Both are beneficiaries until the first
spouse dies, then upon the death of the second spouse, the Joint Partner
Trust passes its unused assets on to the chosen beneficiaries.
How it helps
Why
would anyone want to put valuable assets into such a Trust, even if the
government promises not to punish us for doing it? Lots of good
reasons:
-
Save probate tax
Every province and territory has some form of probate
tax.
This tax is usually a percentage of the value of an estate that
passes to the beneficiaries after death of a taxpayer by the
Will.
The calculation formula and actual amount of the probate taxes
vary from province to province, but in most estate situations it will
be thousands of dollars, and in larger estates can be tens of
thousands. The good news is that, no matter where you live in Canada,
the value of your assets in one of these Trusts is always exempt from
probate tax.
At the least, this automatically reduces the estate
expenses.
At the best, if you choose to put all your assets of value in
one there will be no probate tax
whatsoever.
- Reduce legal costs
Usually a lawyer's services are
required to some extent after someone passes away. Depending
on the size of the estate and the number and complexity of hurdles to
overcome, these services can range from hundreds to thousands of
dollars.
The use of an Alter Ego Trust will reduce the legal costs. The larger
the portion of your estate you arrange to flow through the Trust to
your beneficiaries, the smaller the chance that the probate process
will be required. If probate is not needed, then the
lawyer's fees will reflect
this.
-
Speed estate
administration By avoiding the probate process, weeks and months
of delay in estate administration can be saved. There are
also some simplicities built into the Trust that make the job of the
trustee easier and quicker than the doing the same tasks as an
executor.
A speedy administration is not only a blessing for the trustee,
but it reduces tension and stress on the beneficiaries who are
awaiting their inheritances. The sooner the beneficiaries receive
their shares, the quicker mortgages can be paid off, investments for
retirement made, and your grandchildren's educational needs met.
-
Protect your
beneficiaries It is clever to arrange our estate
affairs to ensure the maximum money goes to our families in the
minimum time, but there are other considerations. Another
fundamental function of estate planning is to protect the inheritance
of our beneficiaries. These Trusts provide the same important
protections of a Will. As a few examples, if you choose you
can creditor proof the inheritance of your son so that it survives
even his bankruptcy. You can exempt your daughter's
inheritance from claims by a son-in-law who divorces her years after
your death.
You can ensure a disabled child will continue to receive vital
government support without losing the benefit of the inheritance nest
egg.
-
Protect
Yourself You can also
obtain a measure of personal protection by moving your assets into an
Alter Ego Trust. If you ever have a period of mental
incapacity following a stroke, or because of advanced age, the Trust
ensures that your own selected back up trustees automatically take
over management of the Trust assets. Then you can be confident that your
investments will be renewed, the bills paid, even your house sold if
necessary, all by your chosen people, and without government
interference or Court involvement. You could also decide to have a
child or other dependable person step in as trustee at any time,
because of your health problems or emotional difficulties. He or she
then looks after the management until you are well enough. You
always retain the right to resume control or appoint a different
trustee.
-
Keep your
privacy No one wants friends and neighbours laughing about
your bank account balance or admiring your investment portfolio. After you
die, if your Will is probated, much of your personal financial life
becomes a matter of public record. Detailed information about the value
of your house, how much money you have, which children play roles in
the estate administration, who benefits under your Will and how the
inheritances are handled are available for any curious friend,
neighbour, creditor or newspaper reporter to comb through. If this
thought troubles you, then be happy! The Trust and the particulars of all
of its assets and workings remain private, seen only by those people
directly involved.
-
Leave your options
open A fundamental
advantage of this type of trust is its flexibility. You can
amend your choice of trustees, the number of beneficiaries, or the
structure of the inheritances whenever you feel like it. You may
change your mind completely, take all of your assets out of the trust
and spend every last penny if it suits you. This Trust
also has wide application, working not just for an individual, but
also for married couples, common law spouses and same sex partners.
How it starts
Think an Alter Ego or Joint Partner Trust sounds
good?
Want to check out this new and appealing approach? Here's how
to get started:
- Make a list of your assets and their
approximate values. Don't forget to include life
insurance policies, registered retirement plans and pension death
benefits.
- See how much probate tax will be paid on your
estate if it passes through a Will (in Ontario the taxes are: $1 000
on a $100 000 estate, $4 750 on a $350 000 estate, and $14 500 on a $1
000 000 estate).
- Call an estate planning lawyer to find out the
cost of doing the trust. Typically this is more than a Will,
but the cost must be considered in view of the total financial and
personal benefits to your self, your spouse and your family. Speed,
simplicity of operation and privacy are worth money too.
- If you are convinced of the value of the
Trust, tell your lawyer to proceed. If not, stick with your existing
Will and succession plan.
- If you choose to set up a Trust, once it is
signed you start moving your selected assets into it. There may
be a modest cost to transfer assets like real estate, but typically no
cost to change GIC or bank account.
- Finally you set up a bank account in the name
of the Trust, with you as the signing person. You may
want to arrange to have all the income from the Trust investments
deposited automatically into that account to make life simple.
- Now you are free to spend your own money as
usual, or save it for reinvestment, or, chortling with glee, spend
your probate tax savings on a spectacular trip, courtesy of the
provincial government!
A word about Wills
Don't think that these Trusts remove all need for
your Will.
The Trust can, but often does not, involve every single one of
your assets.
Many people will decide not to put the house or the car, or each
bank account and investment, or all household contents and personal
possessions into the Trust. It is then your Will that operates to
pass these on to your family. In most cases an existing Will works
well for this purpose, and may not need changes to play its role. The
risk of being forced to probate the Will is lessened, because much or
most of your estate value will be in the Trust, The probate
tax is substantially reduced by value of assets in the Trust, if the
Will must be probated. Your lawyer can help you predict what
assets are likely to trigger the probate process, helping you decide
what goes into the Trust.
Wills may have advantages over
the Trusts in some estate planning situations. If each
child beneficiary may receive a large inheritance, a special
Testamentary Trust Will can save tens of thousands of dollars of tax on
the income produced by the inheritance compared to a direct
inheritance.
The novelty and sophistication of the Trust approach means that
the legal costs for preparing the Trust is probably more than for a
Will.
On the other hand, one Joint Partner Trust can effectively
provide for both spouses, while each requires an individual
Will.
Defusing Executor
Time Bombs
When her Mom passed away, Sally was distraught. The oldest
of three daughters, she was always the responsible one, looking out for
her younger sisters. After Dad died, she tried hard to be
there for Mom.
Sally knew that she was the sole executor of Mom's Will. As always,
she was determined to do the job to the best of her ability. The lawyer
advised that the first responsibility of the executor is to make the
funeral arrangements. That's when the trouble started.
Sally asked the funeral director to do things pretty
much like Dad's funeral, with no visitation and a simple family only
service, followed by interment at the local cemetery. When sister
Susan heard this, she hit the roof. Susan said that Mom had told her she
thought cremation was simpler and better than an elaborate funeral and
burial.
Susan warned Sally she would be betraying Mom's wishes if the
current arrangements proceeded.
Then sister Sara stepped in. Mom was a
regular church goer, and had many friends and acquaintances. Sara said
that Mom would certainly want a church service with visitation. Sara said it
was insulting to Mom's friends not to allow them an opportunity to pay
their respects. She was appalled at the thought of
cremation.
Sally was in a quandary. She couldn't
please both of her sisters, and final decisions had to be made
quickly.
Unable to come up with a compromise, she stuck with her original
plan.
During the funeral, her sisters would barely talk to her. As soon as
the interment was over, they left with their families.
Sally hoped her sisters would come around after they
got over the shock of Mom's death. She set her worries aside and got on
with her executor duties. Actually the next part of the job
turned out to be easier than she feared. The Will required all of Mom's assets
to be divided equally among the three girls. The lawyer
helped by telling her what needed to be done, and how to go about the
estate administration.
The main tasks went quite well. A realtor
listed the house, and before long Sally signed up a sale at a good
price.
She retained an accountant to take care of income tax returns for
Mom and for the estate. She tracked down the few outstanding
debts without difficulty, and there was enough in the bank account to
pay for the funeral, the charge cards, electricity and miscellaneous
expenses.
Sally began to hope that things would work out quickly and
smoothly, doing much to patch up the hard feelings from the funeral.
This fond hope was dashed when the sisters met to
get the house contents sorted out before moving day. Long before Mom
died, she told Sally that as the eldest, she could have her pick of the
family heirloom furniture. When she told the girls that she
wanted to have their grandparents' dining room suite, the fur flew. Sara said
Mom had promised the dining room suite to her. Susan said
it was not fair for Sally to have first choice, but that everyone should
take turns. To complicate matters even more, both Sara and Susan made it
clear each expected to get Mom's wedding and engagement rings.
Sally is at her wit's end. She tried
hard to do the right thing, for her Mom and for her sisters. Despite
this, the family is upset and not speaking to each other. She wished
she could resign as executor, but knew this would just make things
worse.
If only Mom was around to sort things out!
Sally's sorry situation is not really her
fault.
She and her sisters are far from alone in suffering these
problems.
Many families, all decent people, experience the same
dysfunctional tendencies at times of great stress.
Executor time
bombs The root of the problem is that Mom handed a time
bomb her executor, with no instructions on how to defuse it. Many people
find out too late that the worst estate troubles arise not from the
biggest chores, like tax returns, house sales and debt payment. Usually the
Will itself provides a clear framework for accomplishing those necessary
goals.
Expert advisers, like the lawyer and accountant, play a valuable
role in assisting the executor to overcome any obstacles.
For many families it is the overlooked aspects of
the executor's job that create the headaches. Where the
Will does not provide clear guidance, the executor has the obligation
and the discretion to come up with a solution. Usually this
works out fine, but the emotional decisions of arranging the funeral and
dividing up the heirlooms and other items of a sentimental nature are
flash points for family friction. Fortunately, the cure for these
problems is easy and inexpensive. It just takes a little foresight, a
bit of thought, and a piece of paper.
Funeral feuds
The funeral should help pull the family together, but too often
it tears them apart. Each child will have his or her own
opinion about what is appropriate, or what Mom or Dad would have
preferred.
The potential for disputes and discord is obvious, particularly
when emotions are running high and everyone is upset and grieving. The hapless
executor is required by law to make the funeral arrangements, and this
explosive situation may well blow up in his or her face.
Share your
preferences Some people will already have prearranged their
funeral, and if so you have spared your executor a minefield of
decisions.
If not, then at least you should write out your preferences. The points
might include:
· the type of funeral service, whether church or
private;
· open or closed casket;
· family only or public visitation;
· burial or cremation;
· which funeral home;
· which cemetery or other interment.
The guidance you provide need not be extensive or
detailed.
You do not have to spell out which psalms are to be sung, or the
style of the casket handles. You do owe the executor, and by
extension the rest of the family, clarity about your general
inclinations to avoid confusion and dissension. You may not
even care much about the funeral arrangements, but your family most
certainly will.
Don't play hide and
seek You may choose to distribute this note to the
executor and/or other children so that all are aware of your wishes and
there are no unsettling surprises after your death. If you are
not comfortable with that approach, then at least take steps to ensure
the written funeral wishes come to the attention of your family as soon
as possible after death. Leave the note with the family lawyer,
with instructions to deliver it to the executor after your death. You could
also put it in your safety deposit box or file cabinet, but make sure
your executor knows about the note and where to locate it without delay.
No
matter how thoroughly you set out your instructions, if the note doesn't
show up until after the funeral your effort is wasted and it will be
your children who pay the price.
Assist with a
list Most people have several items with special
meaning.
These could be heirlooms or jewellery, photo albums or other
family treasures. Handling these items of sentimental
value can create headaches for the executor and hurt feelings for the
beneficiaries. If you want to avoid these for your
loved ones, take the time to help them out. Here's how:
1.
Make a list of the items of sentimental value. This should
not an inventory of all the nice things you own. No one cares
about the television, or the self cleaning oven, or the car. The guiding
principle is, would you spin in the grave because an executor, ignorant
of the heirloom aspect, takes your grandfather's rocking chair to an
auction sale?
If so, put it on the list. This saves the executor the headache
of guessing what should be kept in the family, and having his or her
judgement second guessed later. Add to the list additional items that
have the potential to create dissension. Both children covet the silver service
and the china cabinet? Put them on the list.
2.
When the list is complete, start over at the
top. Do
you care whether grandpa's rocking chair goes to your daughter or to
your son, or just that it is not mistaken for junk and included in the
auction sale?
If you care, put his or her name beside it. If you don't
care, and if you don't think the kids will either, then just move on to
the next item.
3.
When you reach the bottom of the list, then
congratulations! You have just defused one of the
trickiest challenges your executor will face. Of course
you can't please everyone. No doubt a child would make the
division of special items differently. The inevitable disappointments are not
critical, nor will they have long lasting effect. A daughter
who gets the wedding band rather than the preferred engagement ring may
be disappointed, but will not blame her sister. This was
clearly Mom's intention, confirmed in her own writing.
Disappointment will in time become acceptance, instead of
festering into a feud.
4.
Don't get bogged down on the relative value of the
items designated to each child. Your diamond engagement ring may well
have a higher resale value than your plain gold wedding band. Neither
child will be running off to the pawn shop to flog the family jewels
anyway.
It is the sentimental value that counts, not the fair market
value.
5.
Don't worry about the formalities of this list. Just write
it out in your own handwriting, without witnesses or dates. This is not
a legal document, like the Will. Everything is going to be divided
equally among the children anyway, by the general terms of the
Will.
The list just provides guidance as to how that division should
best be made.
6.
Once the list is complete, make sure that it can be
easily located by the executor. Leaving it with your Will copy, or at
the lawyer's, or in the safety deposit box gives you confidence that
this important problem avoidance tool will show up when it is
needed.
7.
Don't forget to pull out the list and look at it
once in a while. You may change your mind about some
decisions, or give some items away during your lifetime, or remember to
add something else. It doesn't cost anything to change or
update the list, and may well avoid another potentially divisive issue
for your executor.
It takes two to tango
The responsibility to defuse estate time bombs is on
both the person making the Will, and on the executor. If you have
a Will, but have not prearranged your funeral or left a list of
guidance, you owe it to your loved ones to spare them the consequences
of your failure to share your wishes.
If you are an executor, take the time to ask about
any funeral wishes, and request that any preferences be written
down.
If upset siblings confront the executor with opposing views about
"what Dad would have wanted", showing them Dad's actual hand written
note will not only get you as executor off the emotional hook, but also
reassures the upset siblings that the right thing is being done after
all.
Similarly, if you have not provided written guidance
about family heirlooms and sentimental value items for your own estate,
you are setting your executor and beneficiaries up for a rough
ride.
Take a few minutes and avoid a legacy of hard feelings. On the other
hand, if you are an executor, persuade your parents that it's far better
to leave you a list of guidance rather than to leave you a legacy of
family squabbles to sort out.
Get it in writing!
Discussing these important issues with
family members is good, but not good enough. Don't forget that memories
fade and different people will recall different versions of the same
conversation.
If written down, this guidance will avoid hassles for your
executor and heartaches for your children, without confusion or
conflict.
A family should be left a legacy of love, not executor time
bombs.
The inheritance
learning curve:
prepare your children and preserve your
inheritance
One of the most
frequent concerns I hear from clients when assisting in their estate
planning is, how will my children cope with their inheritance? The economic
reality is that over the next 15 years an unprecedented transfer of
wealth will take place, as the generation born before World War II
passes its accumulated assets to the next generation. In Canada
this has been estimated at over one trillion dollars. Governments,
economists and the financial services industry are still trying to
determine the magnitude of the impact on our society in the new
millennium.
While governments plot to have their taxing
mechanisms finely tuned, and financial institutions upgrade their
products and services, the segment of the population most directly
affected are the children who will be the beneficiaries of the trillion
dollar wealth transfer. Perhaps the most important question
is, will they be prepared for the windfall, or overwhelmed by it?
Many people unwisely dismiss this risk. Lack of
money is certainly a problem, but how can receiving an inheritance be
difficult?
The reality is that statistically most children are
in their fifties when they inherit. They probably acquired decent money
management skills. Often this will have been the hard
way, by making mistakes and learning from them.
The money management skills developed however are
not likely to be of great assistance in coping with an inheritance. The mature
children are probably good at matching their incomes to their expenses,
paying off debt such as the mortgage. and even putting aside some
savings for retirement. Those are quite different from
receiving a lump sum when the parents pass away.
Don't underestimate the scope of this
challenge.
Even parents of modest means typically have an estate of some
hundreds of thousands of dollars, comprised of the sale of the house,
possibly a cottage, usually savings and investments, often some life
insurance proceeds. Children can be predicted to receive
tens, even hundreds of thousands of dollars.
Parents are expressing their love for their children
when they leave an inheritance. They hope the fruits of their hard
labour will make a lasting difference for their children. Too often
this turns out to be a false hope.
In real life, when children do receive their
inheritance, some will react impulsively, buying that new car, going on
that lifelong dream cruise, handing out money to their own children.
Others will be intimidated, not able to cope with the responsibility,
and unwise investment decisions follow. The result is far too frequently the
same. A
year or two after receiving their once in a lifetime opportunity to make
a lasting difference to their lives, many children are instead
scratching their heads and wondering where the inheritance has gone.
What can parents do to help their children cope with
the challenges of an inheritance? Fortunately, there are approaches that
parents can take now that will greatly improve the chances of their
inheritances continuing to be a benefit for the children and
grandchildren.
The
problem lies in the children's lack of preparedness to deal with such a
windfall.
Nothing in their financial lives to that point has taught them
skills of dealing wisely with large lump sums of money. For some,
the learning curve takes too long to catch up to the spending curve, and
easy come, easy go. For others, lack of experience leads
to unwise investment decisions. Either way, the inheritance the
parents hoped would be a lasting benefit can be a squandered
opportunity.
Estate planners are well aware of this challenge,
and there are several good techniques available to help. One advances
the children's financial learning curve during the parents lifetime, the
other provides a safety net after the parents have passed away.
The
first technique is to start the children's learning curve now while the
parents are alive. When your children were little and you
proudly gave them their first two wheel bike, did you then take them to
the top of a big hill, give them a shove, and wish them well? Of course
not, You first took time to tell them what they needed to know, left the
training wheels on for a while, and likely ran along beside the bike the
first few times.
Parents can provide similar training for
inheritances by providing an advance on the inheritance, if their
resources permit them to do so safely. Recently I recommended to a
client that she gift her daughter $10,000, with a string attached. The string
was that the capital was not to be spent during the parents' lifetime,
but she could spend the income if she so chose.
My
role as the lawyer was to prepare the agreement confirming that the
daughter would not use the gift immediately for new furniture, and to
ensure that this advance inheritance was protected against claims if a
divorce occurred, as the Will wording protects her main
inheritance.
The
parents' investment adviser also plays a role, agreeing to meet with her
twice a year to review the portfolio and provide advice. The parents
will also make a point of discussing their hard won knowledge about
fixed income, mutual funds, bank account, term deposits, savings bonds
etc. No
doubt the daughter will acquire over the next several years learn much
of value, painlessly and gradually. This is much safer than attempting
to cope with a lot of information in a short time after the death of the
parents, when she is already upset. .
Even if the children are mature adults who manage
their own household budgets competently, coping with an inheritance of
tens or hundreds of thousands of dollars is a new challenge. Like all new
challenges, there is a learning curve before the necessary skills are
achieved.
Unfortunately, many inheritances are diminished or lost before
the learning curve catches up.
What
can parents do to help ensure the once in a lifetime opportunity for a
child to secure his or her financial future is not fumbled? One
technique was explained in my previous column. It involved
the parents "seeding" the child with a modest advance inheritance. The capital
is agreed to be invested, not spent, during the parents' lifetime. During that
time the child has the chance to accelerate the learning curve with
guidance from both the parents and their investment
adviser.
The
second technique provides a further level of protection for the
inheritance, even when the parent is no longer available to provide
direct advice or assistance. This structures the children's
inheritance through the Will in stages, rather than as a lump
sum.
In my
experience, a large percentage of people, regardless of age or financial
expertise, are prone to mistakes when a large sum is dumped on them in
an uncontrolled fashion. Many will make impulsive purchases, or
take expensive trips, or shower money on their own children, or make
hasty investment decisions. Usually they regret some or all of
these later, but too often it is too late to do anything about it except
kick themselves.
Parents can do their children a big favour by
arranging their Wills to have the inheritance paid out in stages, rather
than all at once. A daughter may stand to inherit
$100,000 from her parents. If it comes as one cheque, her first
impulses as to expenditures or investments may later be regretted, but
the money is still gone.
Alternatively, it would be much safer if her parents
arranged for her inheritance to be paid to her in 5 equal instalments
over 5 years.
She might still make initial poor choices, but then she has a
full year to dwell upon her mistakes and make more prudent plans for the
future.
At worst, her first distribution is gone, but 80% is still
there
for her, now as an older and wiser child.
To
prove that with good planning you can have your cake and eat it too, not
only is this form of staged inheritance safer for the child, it can also
be much more income tax effective than a direct
inheritance.
The
planning techniques of advance inheritances during the parents'
lifetimes, and staged inheritances in the parents' Wills, are not
suitable for everyone. If you want to ensure that your
children have the maximum chance to enjoy the maximum advantage from
inheriting, see a lawyer to discuss these valuable approaches. The
inheritance is not the most important legacy you can leave your
children, but it is your last best opportunity to protect and benefit
them.
It is worth every effort to make sure it is a lasting
legacy.
