The Income Tax Act of Canada (the “Tax Act”) includes specific estate planningopportunities for people who are 65 or older: alter ego and joint partnertrusts. Since those trusts were introduced in 2001, they have become a centralcomponent of many estate plans.
What is a trust?
A “trust” is not a legal entity, although it is treated as such for Canadian taxpurposes. It is the word used to describe the relationships created when propertyis transferred by one person (the “settlor”) to another (the “trustee”) to hold forthe benefit of individuals or organizations such as charities (the “beneficiaries”).
Alter ego trusts
An alter ego trust can only be created by an individual who is 65 years of age orolder. The terms of the trust must provide that the settlor is entitled to all of theincome that arises from the trust property before his or her death, and only thesettlor may receive or obtain the use of the income or capital of the trust whilethe settlor is alive. On the death of the settlor, the remaining trust propertywill be distributed to, or continue to be held for, family members, friends ororganizations such as charities as specified in the document creating the trust.
Joint partner trusts
A joint partner trust is similar to an alter ego trust, except that the settlor and his or her spouse,together, must be entitled to receive all of the income of the trust that arises before the deathof the survivor of them. In addition, no person other than the settlor and the settlor’s spousemay be entitled to receive or have the use of the capital of the trust until the settlor and his orher spouse have both died. The definition of spouse, for the purposes of a joint partner trust,includes married, common law and same sex spouses.
What makes these trusts special?
Many estate planning objectives can be achieved through the use of a trust established duringone’s lifetime (an “inter vivos trust”), as opposed to one created by a Will. However, a potentialdownside associated with the use of inter vivos trusts exists as a result of Canadian tax ruleswhich generally provide that an asset transferred to a trust will be considered to have beendisposed of in the year in which the transfer occurs for proceeds equal to the fair market value ofthat asset at the time of the transfer. This means that, if the asset increased in value while it wasowned by the settlor, the transfer of it to the trust could trigger an unwanted tax liability.
If a settlor who is resident in Canada transfers a capital asset to an alter ego trust or a jointpartner trust, the transfer of that asset will be deemed for tax purposes to have occurred on atax-deferred rollover basis. Accordingly, one of the main obstacles to the use of such a trust aspart of an estate plan no longer exists where the person is 65 or older.
Estate planning goals that can be achieved through the use of alter egoand joint partner trusts
1. Elimination of probate fees
In Ontario, probate fees (also referred to as estate administration taxes) are charged at a rate ofapproximately 1.5% of the value of the deceased’s estate. This means that for every $1,000,000 inassets passing pursuant to a Will that is probated, approximately $15,000 in probate fees will be payable.
In British Columbia, probate fees are calculated at approximately 1.4% of the value of all realand tangible personal property owned by the deceased in the province and, if the deceasedwas ordinarily resident in British Columbia immediately before death, 1.4% of the value ofintangible personal property (such as bank account balances, stocks and other securities)wherever located.
Assets transferred by an individual to an alter ego or joint partner trust will not form part of theindividual’s estate on his or her death. Accordingly, probate fees will not be payable in respect ofthe value of those assets.
2. Incapacity planning
A trust can be used as an alternative to an enduring Power of Attorney for property to helpensure that an individual’s financial affairs will be properly managed should he or she becomementally incapable. When compared to the use of a Power of Attorney in this context, a trust canprovide for a more certain and efficient administration of one’s assets and financial affairs bothduring one’s life and after death.
3. Will variation concerns
The Wills, Estates and Succession Act of British Columbia (“WESA”) provides that if anindividual dies leaving a Will that does not make “adequate provision” for his or her spouseand children, including adult children, the Court can vary the Will as it considers appropriatein order to do so. A great deal of litigation is commenced every year based upon this legislation,often resulting in significant legal costs borne by the estate. Will variation litigation is especiallycommon in situations involving competing interests created by second marriages and blendedfamilies, as well as situations where a parent (sometimes for good reason) decides to treat his orher children differently. The decisions of the Courts in these cases are often highly fact driven.As a result, it can be difficult to predict whether a particular Will would be upheld if attacked.Under current law, alter ego and joint partner trusts can be used to eliminate the possibility of aWill variation claim under WESA by an adult child.
4. Confidentiality
When an individual dies and an application is made to the Court to probate his or her Will,the original Will and details of the individual’s assets must be filed with the Court. In manyjurisdictions, that information and copies of related documents are available to members of thegeneral public upon request. This is a concern for many people for reasons of privacy and familysecurity. In contrast, an alter ego or joint partner trust document and details of the property heldpursuant to its terms, can generally be kept confidential to the general public both before andafter the settlor’s death.
5. Estate administration simplified
The use of a trust can also facilitate the administration of assets after death by eliminating theneed for a grant of probate in order to deal with the assets of the trust, thereby permitting theadministration and distribution of those assets more quickly after the settlor’s death for thebenefit of family members and other intended beneficiaries.
6. Reduction in tax on capital gains
Under the Tax Act, on the day that the settlor dies (in the case of an alter ego trust), or on the deathof the last to die of the settlor and his or her spouse (in the case of a joint partner trust), the trust willbe deemed for tax purposes to have disposed of all of its capital property at fair market value. Anygains in the value of that property will be taxable at that time in the trust at the highest individualmarginal income tax rates applicable in the province where the trust is resident for tax purposes.However, if by December 31 of the year of death, the trust is resident in a lower taxing province,the income tax rates of that jurisdiction could apply. To achieve this possible benefit, the trustmight be established in a lower taxing province from the start, or the trust document can be draftedso as to permit the trust to change its residence for tax purposes in the future.
Conclusion
If you or your spouse is 65 years of age or older and would like to consider the possibility of analter ego or joint partner trust, the lawyers in our private wealth, trusts and estatesgroupwould be pleased to talk to you in greater detail about the estate planning opportunities thatthese structures can offer.
