Estate Planning for Private Companies
A death benefit of up to $10,000 may be paid to a spouse or beneficiary by the employer of the deceased in recognition of the employee’s employment services. This amount is deductible to the employer but tax-free to the recipient.
As part of an estate freeze, if new common shares are issued to the parent and then gifted to the children (instead of the children subscribing for the shares), the shares will not be considered joint property by the family law act.
Consider declaring a dividend equal to retained earnings prior to death, but payable after death. The dividend will be treated as a right or thing.
If the corporation has investment income that is being taxed at the high rate (48%), consider declaring a final bonus payable to offset the investment income.
When a company is wound up, the income can be taxed as a dividend or capital gain. The top Ontario tax rate for dividends is $31% vs. 23% for capital gains.
A capital gain is initially reported on the terminal return. If the estate redeems the shares within the first estate year, the estate will pay tax as a dividend and the resulting capital loss can carried back to the offset the capital gain on the terminal return. This option may be preferred if there is a CDA or RDTOH account.
If the capital gains treatment is desired, the estate can transfer the shares to a new company. The existing company would then pay a dividend to the new company which would then pay the funds to the estate.
Estate Planning for Individuals
The creation of separate testamentary or spousal trusts allows for graduated tax rates. The trust is a separate taxpayer and a separate tax return is filed for each testamentary trust. This may help to reduce the OAS and age credit clawback. A trust may be set up in the will for each beneficiary. A trust may also be set up for the beneficiary and family, with the trustees being given discretion over the allocation of income.
Any gains on assets transferred to a spouse or spousal trust are deferred. A spousal trust requires that no other person may receive or become entitled to any of the income or capital of this trust (no remarriage clause or loans/gifts to children).
Assets transferred to an alter-ego trust prior to death are not covered by the will and therefore avoid probate fees and potential will disputes. Assets are also kept confidential from the public. An alter-ego trust can be set up by someone 65 or over. The settler and trust must be resident in Canada. There is no deemed disposition until death. The individual must be entitled to all income of the trust and will continue to pay tax personally on all income earned. Before setting up this trust, consider the following:
- Land transfer tax may be payable if land is transferred;
- There must be sufficient assets outside the trust to pay any personal debts;
- Trust capital losses cannot be carried back to the individual’s final return;
- There is no spousal rollover; and
- There are no testamentary trust tax rates (income will be taxed at top marginal rates).