There is a common misconception that Alberta estates, and estates in Canada generally, are subject to an “estate tax” based on the total value of the estate, as in the United States. This is not correct; however, Alberta estates are often face a significant tax liability depending on the nature of the assets held by the deceased person at the time of their death and any estate planning strategies made in advance.
A deceased person (not their estate) is taxed on all income as an individual in the year of death – from January 1 of that year to the date of death – also referred to as a “terminal return”. In addition to employment income, any untaxed income such as RRSPs, RIFs or capital gains are deemed to come into income in the year of death. The RRSPs and RIFs are obvious, but the sources of a capital gain liability that exceed the deceased’s lifetime exemption are also often significant. The most common of these include the capital gain on rental or vacation properties, shares in private corporations, and non-registered investment accounts. This may result in the deceased’s income in the year of death being skewed unusually high with much of that income being taxed at the highest marginal rate and resulting in an unexpected and unpleasant tax bill. In many cases, this results in the residue of the estate being depleted to pay the tax liability. In some cases, specific gifts must also be encroached/sold in order to pay the tax liability.
The estate is then required to file “estate trust” tax returns, to account for income generated by the estate while it is being administered by the Executor (also referred to as the “Trustee” or “Personal Representative”). If the estate holds assets that generate income, there will be an ongoing tax liability that must be paid until the assets are distributed to the beneficiaries.
It is important that the Executor obtain a Clearance Certificate from the Canada Revenue Agency, both for the terminal return and any estate returns, prior to making a distribution to the beneficiaries. If the estate is distributed prior to the tax liability to the deceased or the estate being paid and receiving a Clearance Certificate, the Executor will be personally liable for that tax liability.
The latent tax liability associated with these assets may be delayed in some instances. For example, naming one’s spouse as a beneficiary to RRSPs or RIFs can result in those accounts being rolled over on a tax-free basis and delaying the ultimate tax liability. Likewise, qualified farmland that devolves to family members through a deceased’s Will can be transferred at the original cost, thereby delaying (potentially indefinitely) any capital gain being triggered on its disposition.
We recommend that clients consult with their financial advisor and/or a tax accountant to make an estate plan that will minimize their tax liability and maximize the benefit to their beneficiaries.
Written by Gary Kirk