If you own a cottage in addition to your principal residence and plan to leave the cottage to your loved ones after you are gone, there needs to be careful consideration and planning in order to pass on the cottage in the most tax efficient manner.
If you decided to keep the cottage and pass it on to your children and/or other beneficiaries, there are several options available to accomplish this. The best way to achieve this is through setting up an estate trust which separates the management of the estate from its ownership. There are several types of trusts:
Testamentary Trust: Testamentary trust is a type of trust that is created after death which transfers the asset in question to the surviving spouse tax-free. In the event, the surviving spouse passes away, the cottage will be deemed disposed at fair market value and the estate will pay taxes on capital gains and the cottage will be transferred to the children. Principal residence exemption can be claimed to reduce or eliminate the capital gains, if applicable. Main disadvantage of testamentary trust for the beneficiaries is that principal residence exemption can not be claimed and the beneficiaries will be required to pay taxes on capital gains from the moment the cottage was transferred to the trust and when its eventually sold. In this case, it would be best to transfer the assets directly to the beneficiaries.
Inter-vivos Trust: Inter-vivos trust is a trust that is created when the individual is alive. By transferring the cottage to the trust while the individual is alive, allows the individual to transfer the ownership of the cottage to the beneficiaries while enjoying the continued use of the property. Another advantage of using this kind of trust is avoiding probate. Probate is a legal procedure involving the courts by which the court validates and administers the will of the deceased. Aside from high costs, the process can become quite complex and time-consuming. By transferring the cottage to the trust, the cottage is no longer part of the deceased estate and probate can be avoided. Assets transferred to an inter-vivos are deemed disposed at fair market value. Principal residence exemption can be claimed if the individual has not claimed another property as their principal residence. One way to avoid the deemed disposition rule is to form a Joint Spousal Trust.
Joint Spousal Trust: A Joint Spousal Trust can be set up if the settlor is at least 65 years old, resident of Canada, and the trust was set up when the settlor was still alive. In this type of trust, assets, such as a cottage, can be transferred to the trust, without triggering the deemed disposition rule. Either one or both spouses are entitled to receive all income arising from the cottage such as rental income prior to the death of the last surviving spouse. No other person except both spouses, are entitled to receive income or capital from a joint spousal trust.
Joint Tenancy with the Right of Survivorship: Another option to consider is to transfer the title of the cottage to the beneficiaries through joint ownership with the right of survivorship. The “right of survivorship” refers to the legal ability of a successor to inherit the property of a deceased individual upon their death. This right determines what happens to a property when one of its owners passes away. It takes precedence over typical probate proceedings, allowing for a faster transfer of ownership. There are some disadvantages to entering such as arrangement. For one, joint tenancy does not avoid probate – it only delays it. Another disadvantage of joint ownership is that co-owners are now exposed to legal risks from other co-owners such as their creditors.
For further information or if you need to prepare a will, please visit the nearest Softron office or contact Softron at:
Telephone: 1-877-SOFTRON, Website: www.softrontax.com
