Financial Planning

Group Life Insurance – Only Part of The Solution

Ownership of individual life insurance at its lowest level in 30 years

The Life Insurance and Market Research Association (LIMRA) 2013 study shines a light on a developing problem for Canadian households:

  • Individual ownership of Life Insurance was at its lowest level in 30 years;
  • 3 in 10 households did not have individual life insurance at all;

Why Group Life Insurance may not be all that you need

If your goal is to replace income for your family for more than 2 years, you may want to add an individual policy to your group insurance coverage.

According to the same LIMRA study, on average, households with only group coverage can replace the household’s income for less than 2 years.  While households with both group and personal life coverage can replace income for more than 5 years.

While group life insurance provided by an employer is a valuable benefit, it does have limitations when used as the only source for life insurance protection.  Some of the reasons group insurance should not be relied on solely for family life insurance include:

  • Group Insurance is not totally portable: If you leave your job, your group life insurance typically does not go with you.   While it is true that some of your group benefits may be converted to an individual plan when you leave, the plans available for conversion for life insurance are often extremely expensive and are quite limited.   Given that a recent Financial Post survey reports that only 30% of respondents stayed in their jobs for more than four years, this could be problematic.   Having additional personal coverage offers a safety net if you find yourself between jobs.
  • Group Life Insurance coverage is often inadequate: Most employee benefit plans provide group life insurance as a multiple of earnings up to a maximum.  A common schedule is two times salary and the maximum may leave you underinsured.
  • Renewal of Group Insurance is not guaranteed: It is important to be aware that the contract to provide employee benefits is one between the employer and the insurance company.  The employee has little or no control.  The coverage may be cancelled by either the company or the insurer.  Another concern is that future premiums may not be guaranteed.
  • Group insurance is not flexible for planning: While group coverage is usually a low cost source of life insurance, it should be looked upon as a top-up to personally held life insurance which provides the necessary protection.  Proper financial planning will determine how much coverage is required to protect your beneficiaries in the event of your death.

5 reasons why consumers don’t act

The LIMRA study also lists five difficulties that consumers have when making decisions about their family protection options.

  • Difficulty in understanding policy details;
  • Are unfamiliar with life insurance;
  • Difficulty in deciding how much to buy;
  • Uncertain about what type of life insurance to buy;
  • Worried about making the wrong decision.

Contact me if you are one of the many Canadians who would benefit from a review of your options to determine if you have an adequate mix in your insurance portfolio.  As always, please feel free to use the sharing buttons below to forward this information to anyone you may think would find this of interest.

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Get Your Corporate Dollars Doing Double Duty

Owners of very successful private corporations are well aware of the importance of cash flow.  Many are protective of how they allocate corporate capital so that business ventures are adequately funded and investment opportunities are not missed.

The Immediate Financing Arrangement offers an opportunity to provide life insurance coverage and accumulate wealth on a tax-advantaged basis without impairing corporate cash flow.

What is an Immediate Financing Arrangement (IFA)?

An IFA is a financial and estate planning strategy that:

  • Combines permanent, cash value life insurance with a conservative leverage program allowing the dollars allocated to the life insurance premiums to do double duty by still being available for business and investment purposes;
  • In the right circumstances and when structured properly so that all possible tax deductions are used, an improvement in cash flow could result.

Who should consider this strategy?

IFA`s are not for everyone. For those situations that best match the necessary criteria, however, significant results can be achieved. The best candidates for an IFA usually are:

  • Successful, affluent individuals who are active investors or owners of thriving privately held corporations who require permanent life insurance protection;
  • Of good health, non-smokers, and preferably under age 60;
  • Enjoying a steady cash flow exceeding lifestyle requirements;
  • Paying income tax at the highest rate and will continue to do so throughout their life.

How does it work?

  • An individual or company purchases a cash value permanent life insurance policy and contributes allowable maximum premiums;
  • The policy is assigned to a bank as collateral for a line of credit;
  • The business or individual uses the loan advances to replace cash used for insurance purchase and re-invests in business operations or to make investments to produce income.  This is done annually;
  • The borrower pays interest only and can borrow back the interest at year end;
  • At the insured’s death the proceeds of the life insurance policy retire the outstanding line of credit with the balance going to the insured’s beneficiary;
  • If corporately owned, up to the entire amount of the life insurance death benefit is available for Capital Dividend Account purposes.

Proper planning and execution is essential for the Immediate Financing Arrangement.  However, if you fit the appropriate profile, you could benefit substantially from this strategy.

If you wish to investigate this strategy and whether it can be of benefit to you, please contact me and I would be happy to discuss this with you and/or your accountant.  As always, feel free to use the sharing icons below to forward this to someone who might find this of interest.

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Estate Planning Tips for Real Estate Investors

For many Canadians the majority of their wealth is held in personally owned real estate. For most this will be limited to their principal residence, however, investment in recreational and real estate investment property also forms a substantial part of some estates. Due to the nature of real estate, it is important to utilize estate planning to realize optimum gain and minimize tax implications.

Key Considerations for Real Estate Investment

  • Real estate is not a qualifying investment for the purposes of the Lifetime Capital Gains Exemption.
  • Leaving taxable property to a spouse through a spousal rollover in the will defers the tax until the spouse sells the property or dies.
  • Apart from the principal residence, real estate often creates a need for liquidity due to capital gains, estate equalization, mortgage repayment or other considerations.
  • Professional advice is often required to select the most advantageous ownership structure (i.e. personal, trust, holding company).

The Impact of Capital Gains Taxes

  • Upon the disposition (sale or transfer) of an asset there is income tax payable based on 50% of the capital gain of that asset.
  • Capital gains taxes can be triggered at death unless the asset is left to a spouse in which case the tax is deferred until the spouse sells the asset or dies.
  • In addition, there may be probate fees levied against the estate at death.

Why is Estate Planning Important?

It is recommended that family issues (including estate equalization) be addressed with certain types of real estate assets. Estate planning can organize your assets with the objective to ensure that at your death they are distributed according to your wishes:

  • to the proper beneficiary(s),
  • with a minimum of taxes and costs
  • with the least amount of family discord.

Tax and Estate Planning Strategies for Real Estate Holdings

Principal Residence

  • If your home qualifies as a principal residence, there is no tax on any capital gains upon sale or transfer of the property. An individual can only have one principal residence and the same holds true for a family unit (for example, both spouses have only one principal residence between them).
  • If the property is held as joint tenants, upon the death of a spouse the ownership automatically remains with the surviving spouse. Upon the death of the surviving spouse his or her will dictates who will receive ownership of the home (usually one or more of the children).
  • In preparing your estate planning for your principal residence, you may wish to ensure that you have sufficient liquidity to cover the cost of any property tax deferral program that you have exercised. This is especially important if the home is intended to be retained by the beneficiary(s) and you don’t want to burden them with the significant cost of repayment.
  • Planning for the beneficiaries to retain the property often creates discord if the children are not all in agreement about the final disposition of the house. Should you just wish to leave the home to one child and not to the others consider estate equalization and use cash, other assets or life insurance as a replacement to the interest in the home.

To maintain family harmony, considerable thought should be given when making decisions to bequeath or liquidate the family cottage or recreational property.

Recreational Property

  • If the sale, transfer or deemed disposition at death of the cottage or other recreational property results in a capital gain, that gain will be taxable. As in the principal residence, ownership could be in joint tenancy which will defer the tax. The tax will also be deferred if the property is left to your spouse in your will.
  • There may be some concern that if the property is left outright to the spouse and the spouse remarries the property may ultimately end up with someone who was not intended as a beneficiary. To avoid this, a trust could be used to hold ownership of the property. A spousal trust created in the will also accomplishes this while at the same time maintaining the spousal rollover to avoid tax on the gain of the property. In addition, the spousal trust has an added advantage in that it allows the testator to specify who will inherit the property on the spouse’s death.

Real Estate Investment Property

  • Sale, transfer or deemed disposition (at death), usually will result in a capital gain or capital loss. If the property in question is rental property, depreciation (known as capital cost allowance) may be claimed as a deduction against rental income. At death, if the fair market value of the rental property exceeds its undepreciated capital cost, there will be a tax payable on the recaptured depreciation. A value of less than undepreciated capital cost will create a capital loss which, in year of death, can be deducted against other income.
  • If the property in question is performing favourably as an investment, it may be desirable to leave it to the surviving family members. In this case, it is recommended that any liquidity requirement for taxes, costs etc. be funded to alleviate the financial burden.
  • From a planning point of view, it may be advisable to own commercial real estate through a holding company. Depending on the circumstances the same could be true with rental property. If required, the shares in the holding company could be owned by a Family Trust which may have a beneficial income splitting result.

Solving the Liquidity Need

One of the most cost effective methods in providing the necessary liquidity in these situations is the use of second-to-die joint life insurance.

The Insurance Solution

  • Tax free cash at the second death.Naming a beneficiary bypasses the will and is not subject to probate.
  • The proceeds are protected against creditor claims.
  • Insurance provides for a guaranteed low cost alternative to the issue of satisfying the liquidity need at death.

Please call me if you would like to discuss your personal estate planning needs.  As always, feel free to use the social sharing buttons below to forward this article to a friend or family member you think might benefit from this information.

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Estate Planning for Blended Families

Avoid Disinheriting Your Children

In today’s family it is not unusual for spouses to enter the marriage with children from previous relationships. Parents work hard at getting these children to functionally blend together to create a happy family environment.  Often overlooked is what happens on the death of one of the parents. In most cases special consideration for estate planning is needed to avoid relationship loss and possibly legal action.

Typically spouses leave everything to each other and when the surviving spouse dies, the remainder is divided amongst the children.  The problem? Even with the best of intentions, there is no guarantee that the surviving spouse will not remarry and inadvertently disinherit the deceased’s children.

6 Estate Planning Considerations for Blended Families

The Family Home

  • In the situation of the family home being owned by one parent prior to the marriage, the other spouse may consider purchasing an interest in the family home. In this situation, consider owning the home as tenants-in-common to allow for each spouse to manage their interest in the home separately.
  • Provisions can be made in the will for the surviving spouse to remain in the home until the time of their choosing (or death) before passing on the interest to their respective children.

Registered Retirement Savings Plans

  • To take advantage of the tax free rollover from their RRSPs each spouse should consider naming each other as beneficiary. If there are no additional investments or assets to pass on to the children, consider using life insurance as the least costly way to provide a legacy for the children.

Other Assets and Investments

  • If each parent has other assets or investments that could provide income in the event of death, a qualifying spousal testamentary trust could direct that the surviving spouse receives all the income from the trust with the possibility of making encroachments on the capital for specific needs. Upon the surviving spouse’s death, the remaining trust assets will be distributed to the appropriate children.

Choose a Trustee Carefully

With trusts being vital to effective estate planning, careful consideration has to be given as to whom will be a trustee.  For blended families, children of one parent may not be comfortable with the choice of the trustee for their inheritance.  Some situations may call for multiple trustees or perhaps the services of a trust company.

Although effective, using testamentary trusts might result in some children not receiving their inheritance until the death of their step parent.  Life insurance may be the ideal solution.  Proceeds from life insurance will guarantee that the children will be taken care of upon the death of their parent.

Advantages of Life Insurance for Blended Family Planning:

  • Can be an effective way to create a fair division of assets when one spouse enters the marriage with significantly more wealth;
  • Death benefit is tax free and could be creditor and litigation proof;
  • Ability to name contingent owners and beneficiaries (including testamentary trusts);
  • Death benefit could be used to create a life estate under a testamentary trust, providing income to a surviving spouse with the capital going to the appropriate children at the surviving spouse’s death;
  • With a named beneficiary proceeds pass outside of the will so cannot be challenged under any wills variation action;
  • Provides for a significant measure of control and certainty as to when and where the proceeds will end up.

The Elephant in the Room

It is important to remember that whatever planning options are used, total and open communication within the family is essential to maintain family harmony and ensure everyone is aware of the state of affairs.  Full discussion will avoid misunderstandings and reduce uncertainty as to what the future may hold for everyone in the family.

Planning for blended families should involve professional advice in creating solutions that satisfy the objectives of both spouses and their respective children.  Call me if you require help in this area or use the social sharing buttons below to share this article with a friend or family member you think might benefit from this information.

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Ease Your Retirement Worries with Immediate Annuities

The majority of Canadians work hard to accumulate a retirement fund and many are averse to exposing savings to unnecessary market risk after they retire.

In today’s prolonged low interest rate environment, immediate annuities are often dismissed or overlooked as a viable vehicle for providing retirement income. Perhaps they shouldn’t be.

An annuity is an investment that provides a guaranteed income stream for a set period of time or for the lifetime of the annuitant. While annuities may not be for everyone, for those trying to find a way to guarantee income in retirement Immediate Annuities may be the answer.

3 Retirement Risks to Avoid

Outliving Your Savings

No one wants to outlive their retirement fund or leave their surviving spouse without resources. An immediate life annuity either on a single life or a joint life basis could be the answer for those looking to ensure that their monthly living expenses are taken care of for the rest of their lives.

If you are a member of a company or government pension plan, you will have the option of structuring a regular pension income for this purpose and to select survivor options for your spouse.

If your retirement savings are in the form of a Registered Retirement Savings Plan, you have the option of converting your RRSP into a RRIF (Registered Retirement Income Fund) or purchasing an immediate life annuity.  This must be done no later than age 71.

Market Risk and Volatility

While you are drawing income from your RRIF you remain invested for the undrawn balance. Seeking higher yields involves a measure of risk. A downturn in the market, such as what happened in 2008, could prove disastrous to a retirement plan. An immediate annuity is not subject to this market risk.

High Rates of Income Tax

The income you receive from a registered source (i.e. RRIF’s, pension, or registered immediate annuities) is all taxable.

You can use your non-registered savings (such as TFSA’s) to purchase a prescribed immediate annuity which will be taxed at a much lower rate than traditional income producing investments (such as GIC’s, bonds etc.).

There are a number of conditions to be met for an annuity to be prescribed, the main ones being:

  • The owner of the annuity must be the annuitant;
  • The owner is an individual, testamentary trust or spouse, alter ego or joint partner trust;
  • The purchase of the annuity is made with non-registered funds.

Annuity income from a prescribed annuity is a blending of interest and return of capital.  This results in less tax payable.

Changes are coming

Unfortunately, the advantage of prescribed annuities will be greatly reduced after January 1, 2017 as the government is changing the factors in determining the taxable portion of prescribed annuity income.  Existing arrangements will be grandfathered meaning only new annuity purchases will be affected after this date.

Also, as of January 1, 2016, the only Testamentary Trusts that will be allowed to purchase a prescribed annuity are testamentary spouse or common-law partner trusts, or a Qualified Disability Trust.

Retirement Scenario A
Protecting Against Market Risk – Certainty of IncomeConsider the circumstances of John and Mary who are aged 73 and 72 respectively.  They have done well for themselves in accumulating wealth for retirement but, after living through a number of bear markets, they realize that they must stay conservative in their investment approach in order to protect their future income.

They have determined that they require a guaranteed monthly income of $1,800 pretax in order to meet their day to day living expenses.  To give them peace of mind, they purchase an immediate joint life annuity that will pay them $1,800 per month for as long as they live.

John and Mary transfer $344,947 * from their RRIF to pay for a registered immediate annuity providing $1,800 monthly income. This will provide them with a predictable and sustainable income for the rest of their lives. The guarantee income period is 10 years which means if they should both die within this time the balance of the 120 guaranteed payments would go to their beneficiaries.

Retirement Scenario B
Reducing Taxable Income with Prescribed AnnuitiesRoger is a 74 year old widower who has non-registered funds invested to produce income.  He has GIC’s and bonds totaling $250,000 which provide him with an average return of 3%.  This results in $7,500 per year annual income which after tax gives him $ 4,875 spendable income (assuming a tax rate of 35%).

If he were to use the $250,000 to purchase a prescribed immediate life annuity he would receive an annual income of $19,915.* Of this, only $1,255 per year would be taxable.  His after tax spendable income would be $ 18,660 per year.  The income from the annuity would be paid for the rest of his life but should he die within 10 years his beneficiary would receive the balance of 120 guaranteed payments.

By providing lower reportable income, prescribed annuities can also be effective in reducing the chances of a clawback of OAS and Guaranteed Supplement Income payments from the federal government.

8 Key Facts to Know About Immediate Annuities

  1. An annuity can be an important component of a balanced financial plan;
  2. It can provide predictable and sustainable income for the life of the annuitant(s), regardless of market conditions or interest rate fluctuations;
  3. The rate of income provided by an annuity is generally higher than other guaranteed income vehicles;
  4. Annuitants can chose the frequency of their payments and also include indexing to help keep pace with inflation;
  5. Annuities are backed with assets to match the duration of the payments. This means that when interest rates are low, it is possible to lock in higher long-term interest rates with an annuity;
  6. Choosing a guarantee payment for the annuity income means that if the annuitant dies prior to the balance of the guarantee period, the beneficiaries will receive the balance. Otherwise the annuitant receives the income for life;
  7. For those over the age of 65, taxable income from an annuity will generally qualify for the pension income credit;
  8. For prescribed annuities, after January 1, 2017 the government changes in how the non-taxable portion is calculated come into effect and after that date will not provide the significant advantage that they do now.

If you or someone you know shares the concerns of protecting income throughout the retirement years, an immediate annuity might provide a solution to some of those concerns.  Please feel free to share this information with your friends and family.

*Annuity rates shown are those of BMO Life current as of August 14, 2015;
** For prescribed annuities purchased prior to January 1, 2017.
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Budget 2015 Highlights

On April 21, 2015, Finance Minister Joe Oliver tabled his first federal budget.  The provisions of the budget will be of particular interest to owners of small and medium sized businesses, seniors and families with children.  As well, those looking to make certain charitable donations will be encouraged by Oliver’s budget.

Below is a brief commentary on each of the key budget proposals.

For Seniors and Savers

Increase in Tax Free Savings Account (TFSA) Limit

  • Effective January 1, 2015 the annual contribution limit has been increased from $5,500 to $10,000;
  • As a consequence, the automatic indexing of the annual contribution limit has been eliminated;
  • On April 24, the CRA announced that even though this provision is not law as yet, they will allow increased deposits to a TFSA effective immediately.

Reduction in RRIF Minimum Withdrawals

Original guidelines set in 1992, called for a minimum withdrawal percentage from a RRIF at age 71 of 7.38% increasing to 20% from age 94 onwards. Also, in 1992, the nominal rate of return of RRIF assets was set at 7% and indexed at 1% annually;

  • Under the 2015 Budget, the new withdrawal factor at age 71 will be 5.28 % increasing to 20% at age 95 and over;
  • Also, the nominal rate of return on RRIF assets will be set at 5% and 2% indexing;

As a result of these changes, individuals taking the minimum required withdrawal at 71 and beyond will see greater capital preservation in their RRIF.  This can be illustrated in the following table:

Capital Preserved Under New RRIF Factors Age 71 Capital Preserved ($)
Age Existing RRIF Factors New RRIF Factors Difference(% more remaining)
71 $100,00 $100,000
80 $64,000 $77,000 20
85 $47,000 $62,000 32
90 $30,000 $44,000 47
95 $15,000 $24,000 60
100 $6,00 $10,000 67

Notes:

  1. For an individual 71 years of age at the start of 2015 with $100,000 in RRIF capital making the required minimum RRIF withdrawal each year.
  2. Age 71 capital preserved at older ages is expressed in terms of the real (or constant) dollar value of the capital (i.e. the value of the capital adjusted for inflation after age 71). The calculations assume a 5% nominal rate of return on RRIF assets and 2% inflation.

Source – Conference of Advanced Life Underwriters (CALU) Special Report, April 2015.

Home Accessibility Tax Credit

  • Once implemented, will provide up to $1,500 in tax relief for qualifying individuals (mainly seniors and disabled persons) making accessibility and safety related home improvements to their principal residence.

For Business Owners

Small Business Tax Rate

  • For the first $500,000 per year of qualifying active business income, the current small business deduction reduces the federal corporate income tax rate to 11%
  • Under Budget 2015, there will be a 2% decrease in the small business tax rate which is to be phased in over the next 4 years at a rate of .5% per year.

Dividend Tax Credit For Non-eligible Dividends

  • Under Budget 2015, proposals call for a change in the gross up and dividend tax credit rate in conjunction with the proposed reduction in the small business rate;
  • This measure will have the effect of reducing taxes for small businesses and their owners over the next four taxation years.

Increase in Lifetime Capital Gains Exemption for Qualified Farming or Fishing Property

  • The Budget proposes that on or after April 21, 2015, the LCGE for capital gains realized on qualified farm or fish property is increased to $1,000,000 (currently $813,000).

For Families

Included in the Budget but previously announced:

  • The Family Tax Cut will allow couples with children under the age of 18 to split their incomes for a tax credit of up to $2,000;
  • The Universal Child Care Benefit proposal increases the benefit to $160 per month for children under the age of six and provides a new benefit of $60 per month for children ages 6 to 17.
  • The children’s fitness tax credit has been doubled.

Other Proposed Measures

Donations involving Private Shares or Real Estate

In the past, CRA has had concerns with donations involving private company shares and property being valued appropriately.

  • Budget 2015 proposes to exempt individual and corporate donors from tax on the sale of private shares or real estate to an arm’s length party, provided the cash proceeds are donated to a registered charity within 30 days.
  • If implemented, this will take effect in 2016.

Simplification of Form T1135 Reporting

This form which deals with the reporting of foreign property has proven to be extremely onerous for the individuals, corporations and trusts who are obligated to file it.

  • For taxation years that begin after 2014 the form will be significantly simplified.

Registered Disability Savings Plan

In 2012, the government had announced that for those individuals who did not have the capacity to enter into such arrangements, a qualifying family member could temporarily become a planholder.

  • Budget 2015 extends the temporary period from December 31, 2016 until December 31, 2018.

New Anti-Avoidance Rules – Tax Avoidance of Corporate Capital Gains

  • Budget 2015 contains proposed amendments to Section 55 of the Act, which exists to prevent conversion of corporate capital gains to tax-free intercorporate dividends.
  • These new amendments will be applicable to dividends paid after April 20, 2015.

Budget 2015 is a document consisting of over 500 pages, so there are many more elements than what is discussed here.  The budget proposals included here are the main ones that may have the most impact on your planning.

If you require assistance in determining if your personal or corporate planning will be affected, please call me and I will be happy to assist.

Also, please feel free to use the sharing buttons to forward this article to anyone you feel would benefit.

 

Sources cited in this article:

  • CPA Canada Federal Budget Commentary – 2015
  • CALU Special Report – April 2015
  • Canada Revenue Agency – Website News
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5 Recent Tax Changes for the 2015 Tax Season

Tax time is almost upon us and there are some recent changes which will affect many Canadian residents.  The important changes to keep in mind are as follows:

The Family Tax Cut

This is the watered down version of income splitting plan that was introduced by the Harper government in 2011.  The provisions allow couples with children under the age of 18 living with them to shift income from a higher income spouse to a lower income spouse so that the combined taxes payable will be reduced.  The most that can be taxed in the lower-income spouse’s hands is $50,000 resulting in a federal non-refundable tax credit which will provide maximum savings of $2,000.

Increases in Child Related Expenses

Parents have also benefited from increases in the following:

  • Children’s Fitness Tax Credit – Increased from $500 to $1,000;
  • Universal Child Care Benefit – Increased from $1,200 to $ 1,920 for children under 6 and (new) $720 for each child age 6 through ugh 17;
  • Child Care Expense Deduction – an increase of $1,000 (can’t claim until 2015);
  • Adoption Expense Tax Credit – increased from $11,774 to $15,000.

The Expansion of the “Kiddie” Tax

Originally introduced in 2000, the kiddie tax was designed to eliminate the tax savings created by the splitting of certain types of income (most commonly dividend income from a private corporation) with children under the age of 18.  The Federal Budget in 2014 has expanded the definition of split income exposed to the kiddie tax to include business and rental income that is paid by a third party to a minor.  If the minor’s relatives perform an income generating function or has ownership in a partnership interest for this purpose the kiddie tax will now apply.

Foreign Account Tax Compliance (FATCA)

This U. S Legislation came into effect July 1, 2014 and requires the CRA to inform the Internal Revenue Service about the financial accounts of any U.S. person living in Canada.  For these individuals, there is a possibility that they may be required to pay tax in the US especially with the new Medicare surtax on net investment income.  As a result of FATCA there has been an appreciable increase in the amount of disclosure documentation for US persons living in Canada.

Canada Revenue Agency Revised Form T1135

Effective with 2014, taxpayers must now provide significantly more information about their foreign property.  Form T1135 must be filed by Canadian residents, corporations and trusts who during the year owned specific foreign property having an adjusted cost base of more than $100,000.  Filing is also required by partnerships that hold specified foreign property with an ACB of more than $100,000 where the non-resident member’s share of income or loss is less than 90% during the reporting period.  If you are required to file Form T1135 be sure to review what Specified Foreign Property includes and what must be reported.

Changes to Testamentary Trusts

Since 1971 a Testamentary Trust has been an effective vehicle for estate planning due to the fact that these trusts currently enjoy graduated rates of tax in the same way that an individual taxpayer does.  Testamentary Trusts are created by Will and become effective when the testator dies. Inter-vivos trusts which are created during an individual’s lifetime are taxed at the top marginal rate in the province in which the trust resides. This will change on January 1, 2016 when Testamentary Trusts will no longer enjoy preferential income tax treatment but will be subject to tax at the highest marginal rate similar to inter-vivos trusts.  This is a significant change and will necessitate careful planning before the effective date. There are limited exceptions such as trusts created for the benefit of an individual who is eligible for the disability tax credit.  Also, graduated rates of taxation will continue to apply for 36 months after the date of death.

As a result of this change, it is expected that there will be an increase in the use of inter-vivos trusts, alter ego and joint partner trusts.

It is not easy to keep up with all the changes affecting income taxes and the documents that must be filed.  These are just a few of the recent changes that could affect many Canadian taxpayers this year.  It is recommended that you check with your accountant about other changes that could also affect you.

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A Lifetime Gift for Your Grandchildren

The Cascading Life Insurance Strategy

If you are a grandparent wishing to provide an asset for your grandchildren without compromising your own financial security you may want to consider an estate planning application known as cascading life insurance.

How does the Cascading Life Insurance Strategy work?

  • The grandparent would purchase an insurance policy on his or her grandchild and funds the policy to create significant cash value;
  • The grandparent would own the policy and name their adult child as contingent owner and primary beneficiary;
  • The cost of life insurance is lowest at younger ages, allowing the grandparent to establish a plan that allows the cash value in the policy to grow tax deferred;
  • When the grandparent dies his or her adult child becomes the owner of the policy.

What are the benefits of the Cascading Life Insurance Strategy?

  • Tax deferred or tax free accumulation of wealth;
  • Generational transfer of wealth with no income tax consequences;
  • Avoids probate fees;
  • Protection against claims of creditors;
  • Provides a significant legacy;
  • Access the cash value to pay child’s expenses such as education costs. (Withdrawal of cash value may have tax consequences);
  • It’s a cost effective way for grandparents to provide a significant legacy.

Case Study

Let’s consider an example of the Cascading Life Insurance Strategy.  Grandpa Brian is 65 and has funds put aside for the benefit of his grandson, Ian.  He purchases a participating Whole Life policy on Ian for an annual premium of $5,000 for the next 20 years. Brian’s daughter, Kelly is named as contingent owner in the event of Grandpa Brian’s death and beneficiary in the event of Ian’s death.

If Grandpa Brian were to die at age 85, the policy now passes to Kelly with no tax consequence.  The cash value of the policy (at current dividend scale) at that time is approximately $ 154,000 and the death benefit of the policy is approximately $800,000.

As a result of Grandpa Brian’s legacy planning, Grandchild Ian, now age 31, has a significant insurance estate that will continue to grow with no further premiums!

Please call me if you think your family would benefit from this strategy or use the social sharing buttons below to share this article with a friend or family member you think might find this information of value.

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Changes to the Taxation of Estates

Estate, trust and tax planners have long favoured testamentary trusts as vehicles to pass along assets to beneficiaries or heirs.   A testamentary trust is generally a trust or estate that is created the day a person dies.  Commonly, these trusts are established in a testator’s will.

A significant benefit to testamentary trusts had been that income earned and retained in the trust received the same graduated rate of income tax as an individual tax payer.  Unfortunately, under the terms of Bill C-43, after January 1, 2016, all income retained in the trust will now be taxed at the highest rate of tax applicable in the province in which the trust is resident.

There will be two exceptions to this new rule – The Graduated Rate Estate (GRE) and a Qualified Disability Trust (QDT).

Graduated Rate Estate

Anyone who has ever acted as an executor can tell you that it can take a considerable length of time to settle the estate.  How much time is reasonable?    Under the new act, the government is telling us that the appropriate amount of time for an estate to be settled is 36 months.  To support this, they point to statistics that suggest the majority of estates are wound up by then.  As a result for the first 36 months the estate will be classed as a Graduated Rate Estate (GRE) and during this period will be subject to graduated rates of tax as it would have been under the old system.  If at the end of this period, the trust still exists, it will now be taxed at the top rate.

The important points to consider are:

  • The representative for the estate can select any year end for the GRE;
  • If the trust continues beyond the 36 month period following the date of death, the trust year end will automatically convert to a December 31st year end going forward;
  • A Graduated Rate Estate is an estate and not a trust created under a person’s Will.
  • There can be only one GRE. If there are testamentary trusts in the Will, for example, for the benefit of children, they will be taxed at the top flat rate of tax.

Even though testamentary trusts have lost their preferred tax treatment, they will still present significant estate planning benefits for situations involving spendthrifts, special needs beneficiaries and blended families among others.

Qualified Disability Trust

A QDT is a testamentary trust that will continue to enjoy graduated rates of tax. The basic conditions of a QDT are as follows:

  • The beneficiary of the trust must qualify for the disability tax credit under Section 118.3 of the ITA;
  • There can be only one QDT for any disabled beneficiary;
  • Each year, in the income tax return, the trust will elect, jointly with the beneficiary, that the trust is a QDT;
  • In situations where both a testamentary trust AND an insurance trust are in the Will for the benefit of the disabled beneficiary only one trust can be a QDT – the excluded trust will have income received and retained taxed at the highest marginal rate.

The rules surrounding the Qualified Disability Trust are complicated so if you are preparing your Will with a disabled dependent in mind, please make sure to obtain professional help.

Life Interest Trusts

Appearing in the final legislation of Bill C-43 without prior warning was a change in the manner in which life interest trusts, specifically spousal trusts, alter ego trusts and joint partner trusts will be taxed when the income beneficiary dies.  When an income beneficiary (or second death in the case of a joint partner trust) dies, the trust is deemed to have disposed of all its capital assets at fair market value.  The income from this deemed disposition has, up to now, been taxed in the trust.  As of January 1, 2016, deaths occurring after that date will see the capital gains taxed in the deceased’s beneficiary terminal tax return and not in the trust.

This simple change can have significant implications.  If, for example, the deceased beneficiary’s estate does not have sufficient funds to pay the tax liability, the trust is jointly and severally liable.  This could create an inequity in situations where the deceased’s estate has different beneficiaries than the trust.

Another significant implication will be felt by post mortem estate plans, such as private company share redemptions that depend on netting capital losses against capital gains.  With the new legislation, capital gains which arise from the deemed disposition will be reported by the deceased, but the capital loss created by the redemption will be realized in the trust.

Any planning which has been implemented using these vehicles should be reviewed.  There may be required revisions or additional planning to deal with situations which are affected negatively by these new changes.

All the changes discussed here, take effect after 2015 and it is important to note that there is no grandfathering of existing plans.  If you have concerns that you may be affected by this new legislation regarding the taxation of trusts it is important that you discuss your situation with a qualified professional adviser.

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Is it Time for Your Insurance Audit?

Has it been awhile since you last looked at your insurance portfolio?

Are you a little vague in your recollection of all the coverage you have and why you have it?

Are you uncertain as to whether or not your portfolio reflects your current situation?

Just like going to the dentist for regular checkups is a necessary evil, reviewing your financial plan and products on a regular basis is also recommended.  Circumstances can change over time and making sure your protection is keeping pace is a worthwhile exercise.

A comprehensive audit should review the following:

  • Is the total death benefit of your life insurance appropriate to your needs? A current capital needs analysis can help to determine this.
  • If your current coverage is renewable term insurance should the policy be re-written before it renews at a substantial increase? Premiums for new coverage can be significantly lower than the renewal premium of an existing policy.
  • Is your need for life insurance permanent? If that is the case, you should ensure you have at least some of your needs covered by a permanent plan.
  • Are you nearing the end of the conversion period on your term policy? If yes, this may be the time to consider converting to permanent insurance.
  • Is your disability protection in place consistent with your current income? If you have changed jobs does new group coverage impact your personal plan?
  • Are the beneficiary designations still valid for your current situation? Has there been a re-marriage that may require changing the beneficiary or ownership of the current policy?

In addition, the following are important to note:

  • If your policy is a Universal Life policy with cash value are the investment options still appropriate to market conditions and/or your risk tolerance?
  • If the policy is a Whole Life policy are the dividends adequate to now fund the premium should you wish to take a premium holiday?
  • If your policy was assigned to a lender as collateral for a loan and that loan has been repaid make sure the assignment has been removed.
    • Does your existing policy qualify for a reduction in premium?
    • If you have you stopped smoking you may qualify to have the premiums reduced to those of a non-smoker.
    • If your policy was issued with a substandard extra premium and your health has improved you may qualify to have the rating removed.
    • If your policy was rated as a result of participation in hazardous activities, e.g. flying, mountain climbing, heli-skiing this rating can be removed if you no longer are active in these activities.

If the current policy is for business purposes the following should also be reviewed:

  • If the policy was to fund a Shareholders’ Agreement or Partnership Agreement, does the amount and type of coverage still satisfy the terms of the agreement?
  • Are the ownership and beneficiary provisions of the policy still valid for Capital Dividend Account planning?

Reviewing your coverage on a regular basis is recommended.  If you think it would be beneficial to you, call me to arrange a time to do an Insurance AuditAs always, please feel free to use the social sharing buttons below to forward this article to a friend or family member you think might find this information of value.

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