Estate taxes are a complex and often daunting aspect of wealth management, particularly for affluent families and business owners. The potential impact on the wealth transfer process can be significant, making proactive planning essential to minimize liabilities and ensure a smooth and efficient transition of assets to the next generation.
To offer deeper insights on this crucial topic, we spoke with Ali Spinner, a seasoned accountant and tax partner at Crowe Soberman, who specializes in assisting affluent families and professionals structure their affairs in a tax-efficient manner. Ali shares her invaluable strategies for navigating the intricacies of estate taxes and protecting your legacy.
Understanding Estate Taxes and Their Impact
Estate taxes are levied on the transfer of wealth from one generation to the next. For those with substantial assets, these taxes can quickly erode the value of the estate if not properly planned for. “Understanding estate taxes and their impact is a critical cornerstone to any affluent entrepreneur in Canada,” Ali emphasizes. “As business owners and professionals, we pay a significant amount of taxes throughout our lives. To minimize the burden, it’s essential to have a solid understanding of these taxes and their implications.”
Ali categorizes estate taxes into three main areas:
- Estate Administration Tax (Probate Tax): This tax is applied to the value of the estate’s assets, calculated at 1.5% for every million in assets. These comprise the smallest component and are the easiest to plan for.
- Capital Gains Tax: In Canada, when an individual passes away and leaves their assets to their children, all their property is considered to have been sold at fair market value immediately prior to death. This deemed disposition triggers capital gains taxes due in their personal estate. With the widely publicized capital gains tax rate increase to 35.7% effective June 25, 2024, the tax impact on assets with significant appreciation can be substantial.
- US Estate Tax on US Situs Assets: When an affluent person dies owning US situs assets (like US real estate or shares in US corporations), their estate may face US estate tax, which can further diminish an estate’s value. This tax is relevant for all affluent people, not just those that are US citizens.
Strategies for Minimizing Estate Taxes
Effective tax planning involves a nuanced, tailored approach. Ali highlights two key factors when determining the best strategy: (1) practicality, and (2) the cost of creating and maintaining the strategy.
While each situation is unique, Ali offers a high-level overview of strategies for each tax category. She cautions that these strategies are not one-size-fits-all and their appropriateness must be carefully considered.
For probate taxes, Ali often recommends a dual will approach. A primary will, which is subject to probate, is complemented by a secondary will that includes specific assets such as shares in private corporations (which can house your investment portfolio). With proper structure, the assets of the secondary will are not subject to probate. Other strategies may include alternatives for real estate and other assets with a probate structure.
To address capital gains taxes, estate freezes can be beneficial, especially for assets intended to stay within the family; however, this strategy is most effective when the asset is not expected to be sold during your lifetime, or shortly after it is received by one’s beneficiaries. Additionally incorporating life insurance into your planning can provide instant, tax-free liquidity to cover estate tax obligations and prevent a forced sale of assets.
For concerns about US Estate Tax, Ali suggests considering ownership structures such as carefully structured trusts for US real estate, thereby avoiding US estate tax on death. Similarly, US situs assets held in a corporation may not be subject to US estate tax, though careful consideration is needed when using corporate structures due to potential increases in the ultimate tax rate on dividends received from foreign investments.
In every case, the key considerations are the total amount of tax liability that will become due at death and where are the funds going to come from to fund this tax. “You may have the best of intentions to leave a legacy, but without proper planning, you could inadvertently leave a significant tax burden behind,” Ali warns.
The Importance of Working with a Tax Expert
Navigating the complexities of estate taxes requires an experienced tax planner who can guide you through the ever-changing landscape of tax laws. “We live in a world that is constantly evolving, and the rules are always changing,” says Ali. “While the examples we’ve discussed are simplified, estate taxes are highly nuanced and specific to each individual’s situation.”
To ensure your estate is handled in the most tax-efficient manner, it’s crucial to work with a tax expert who understands the intricacies of estate tax laws and has experience with families of a similar economic background. By partnering with a knowledgeable professional, you can take comfort knowing that your affairs are well-organized, and your assets will be passed down in a manner that honours your legacy while minimizing the tax burden on your heirs.
