Insurance Journal – Page 6

Unintentionally extinguishing survivorship with joint accounts

At issue

Over the last few decades, joint ownership has grown in use as an estate planning and property succession tool involving adult children. The reason for distinguishing here between planning and succession is that joint ownership is a multi-faceted concept. Below the surface of the recorded title there can be much more going on, with beneficial rights frequently diverging from legal title. In particular, within families the law presumes that the addition of an adult child to title is not a beneficial transfer, though the child has the opportunity to rebut that.

One issue that may not be so well known is that joint ownership may operate differently with real estate as compared to bank or investment accounts. In the former case the real estate itself is the subject matter of the arrangement, whereas in the latter the practical focus (and value) is with the contents of the account.

While this may sound like splitting hairs, it can have some real world implications. If an otherwise beneficially entitled adult child is not careful in managing those joint arrangements, beneficial entitlement can be put at risk, possibly extinguishing survivorship rights.

Zeligs v. Janes, 2015 BCSC 7, supplemental reasons 2015 BCSC 525, upheld 2016 BCCA 280

Dorothy Burnett was 94 when her daughter Diana Janes (and husband) moved in with her. Within a year, Diana had been added as joint owner on the property, granted power of attorney by Dorothy, and made joint owner of Dorothy’s bank account.

In the following years, Diana borrowed against the property (for herself, not her mother) via line of credit and reverse mortgages. After Dorothy entered a nursing home at age 101, Diana sold the house for $2.7 million, retired the accumulated $832,643 in mortgage debt, and used the net proceeds to purchase a new home and investments for herself and her husband. On Dorothy’s death at age 103, as executor Diana paid the estate expenses and legacies to grandchildren, then split the residue between herself and her sister Barbara Zeligs, each receiving $63,783.

Barbara died a year after her mother, and her husband later commenced an action as executor of Barbara’s estate impugning many of Diana’s dealings with Dorothy’s affairs.

The trial judge found that though a resulting trust applied on the joint ownership of the home, Diana had rebutted that presumption as well as a claim of undue influence. The key evidence was a handwritten note the judge found expressed Dorothy’s true intention to add Diana as “joint owner as long as I live and full owner when I die.” He went on to discuss how joint ownership requires that there be four unities: title arising from same instrument, equality of interest, time of vesting, and right to possession. It was held that these unities remained intact despite the mortgages taken out by Diana, and even upon sale of the property since the proceeds were placed into the joint bank account.

However, “once they were withdrawn from the joint account for the sole benefit of [Diana and her husband], to the exclusion of Dorothy, the unity of possession was destroyed and the joint tenancy was severed.”

The court ordered half of the sale proceeds be paid to the credit of the estate. Furthermore, in supplemental reasons Diana was held to be in a conflict of interest when she used her authority under power of attorney to discharge the mortgages. She breached her fiduciary duty to Dorothy and was ordered to return $832,643 to the estate.

In the result, Diana’s actions destroyed her own right of survivorship that would have applied if the home had been held to Dorothy’s death, or even if the proceeds had remained in the joint account after Dorothy’s death.

Practice points

Joint ownership with an adult child can be more complicated than first apparent, with its application to bank and investment accounts being distinctive and potentially more complicated than in dealing with real estate.
Even if there is identity of legal and beneficial interests, the continuing form and process of dealings with the property must be carefully managed. Specifically, if property is encumbered, disposed or converted in a way that is inconsistent with the unity of interests among the owners, current and future rights may be lost.
Extra special care must be taken where the child/joint tenant also holds power of attorney over the parent’s property, especially after the parent has lost mental capacity.

Using the preferred beneficiary election with new qualified disability trusts

At issue

Testamentary trusts may come into being at and as a result of a person’s death. Commonly this is done using a Will, less often using an insurance or RRSP/RRIF beneficiary designation, and occasionally as a result of a court order.

For decades the tax benefit of such trusts has been their entitlement to use graduated tax brackets, as opposed to top bracket treatment for inter vivos trusts. As of 2016, testamentary trusts no longer have this preference, except for the first 36 months of an estate and for certain trusts for disabled beneficiaries. In the former case of an estate, there are limited opportunities to engage in meaningful tax planning.

On the other hand, trustees can and must act strategically on behalf of disabled beneficiaries. In the first place, there is a positive obligation to file an election to preserve those graduated brackets, and only one trust can be so-elected. This can complicate how a parent approaches trust drafting in isolation, let alone where multiple contributors may be contemplated.

As well, trustees need to be certain how existing trust tax rules for disabled beneficiaries may be affected. At the head of that list is the continuing use of the preferred beneficiary election.

Income Tax Act (ITA) Canada – 104(14) — Preferred beneficiary election

The term “preferred beneficiary” is a defined term in the ITA, and for present purposes includes someone who has a mental or physical impairment that entitles the person to claim the disability tax credit.

Section 104(14) sets forth that: “Where a trust and a preferred beneficiary under the trust … elect in respect of the particular year … such part of the accumulating income of the trust … shall be included in computing the income of the preferred beneficiary for the beneficiary’s taxation year”.

The effect of the election is that some or all of the trust income is allocated to the beneficiary. Tax is calculated based on the beneficiary’s graduated rates, and the trust pays that tax. The net income remains in the trust under the care and control of the trustee.

ITA 122(3) — Qualified disability trust (QDT)

As noted, testamentary trust usage of graduated tax brackets is now very limited. However, where the QDT definition is met, a trust remains entitled to use graduated brackets to calculate its taxable income. To qualify, a joint election must be filed by the trust and a beneficiary of the trust who, by reason of mental or physical impairment, is entitled to claim the disability tax credit.

Importantly, the electing beneficiary cannot “jointly elect with any other trust, for a taxation year of the other trust that ends in the beneficiary year, to be a qualified disability trust.” To the point, there may be only one QDT for a given person in any taxation year.

2015-0605111E5 (E) — Qualified Disability Trusts – Preferred beneficiary election

The taxpayer described a hypothetical situation in which an individual with a disability has four grandparents and each grandparent establishes under his/her will a trust for the individual. It is acknowledged that only one of the trusts could be a QDT for the 2016 and subsequent tax years. The inquiry goes on to ask whether the trustees of the additional three testamentary trusts created for the benefit of the same individual can make a preferred beneficiary election for each additional trust.

In response, the CRA author confirms that there have been no changes to the preferred beneficiary election rules as a result of the changes to the rules applicable to testamentary trusts, including the introduction of the QDT.

Both the QDT and preferred beneficiary election are elective provisions, and those elections are not mutually exclusive. As such, the trustees together with the disabled beneficiary can choose which joint election will be made, if any, and it is indeed possible for a trust that has made a joint election to be a QDT to also make a preferred beneficiary election.

Practice points

As of 2016, most testamentary trusts cannot use graduated tax brackets, but the new qualified disability trust preserves that treatment for disabled beneficiaries.
For existing trusts, additional tax filing obligations are required to assure QDT treatment, which fortunately may be coordinated with the preferred beneficiary election.
For families in the preparatory stages, they should confirm with legal counsel that appropriate powers and permissions have been explicitly drafted into trusts and other planning documents.

Solicitor-client privilege prevails over CRA information gathering powers

At issue

The earliest incarnation of solicitor-client privilege was as a rule of evidence. It served as a shield against confidential professional communications between a lawyer and client being tendered as evidence in a court proceeding.

Over time, privilege has progressed beyond being mere procedure. Indeed, it is now considered to be a substantive legal right (whether in or out of court), and indeed a principle of fundamental justice. But there have always been and continue to be limits. For example, the client must be seeking legal advice and must intend the communications to be kept in confidence. Furthermore, communications in furtherance of a criminal purpose are not protected at all.

Earlier this year, the Supreme Court of Canada (SCC) released rulings in two cases involving privilege claims invoked to resist disclosure demands from the Canada Revenue Agency (CRA).

Solosky v. The Queen, [1980] 1 SCR 821

This judgment marked an explicit acknowledgement from the SCC that case law had progressed such that privilege could be claimed outside court evidence matters, bringing it to a “new plane”. Solosky was an inmate in a federal penitentiary whose correspondence – including that with his lawyer – was being opened by corrections officers. While accepting the evolution of privilege, the Court expressed that limits remain, denying the instant claim in the face of overriding security concerns of the institution.

Section ss. 231.2(1), 231.7 and 232(1) of the Income Tax Act (ITA)

ITA s.232(1) defines solicitor-client privilege as “the right … to refuse to disclose an oral or documentary communication on the ground that the communication is one passing between the person and the person’s lawyer in professional confidence, except that for the purposes of this section an accounting record of a lawyer … shall be deemed not to be such a communication.” [Emphasis added]

This is known as the ‘accounting records exception’, and is brought within CRA’s power to require documentary disclosure under ITA s. 231.2(1). And if there is a refusal to produce the document/communication, the CRA may seek court assistance pursuant to ITA s.231.7.

Canada (Attorney General) v. Chambre des notaires du Québec, 2016 SCC 20

Over recent years, many Quebec notaries in the course of law practice had been served with a “requirement to provide documents or information” relating to one or more of their respective clients who were the subject of tax audits. The Chambre des notaires du Québec was unable to negotiate a compromise with CRA, so it launched a court action which eventually made its way to the SCC.

The top court noted that information in accounting records could be subject to solicitor-client privilege, with the client name alone sufficing in some situations. Accepting that the requirement scheme is a legitimate tax collection tool for CRA generally, the intrusion on privilege nonetheless went too far. The SCC ruled the ITA sections were unconstitutional with respect to accounting records of lawyers and notaries (as had the lower courts), as an unreasonable search and seizure of information under s.8 of the Charter.

Canada (National Revenue) v. Thompson, 2016 SCC 21

Both Chambre and this case dealt with the accounting records exception, and the two judgments were released on the same day. But whereas in the former it was the clients whom CRA pursued, in this case Mr. Thompson himself was the subject of an income tax audit, the CRA having served him a requirement to produce the accounts receivable of his law practice in addition to personal finance documents.

Though constitutionality was not argued here, the finding followed from the Chambre ruling, ironically allowing Mr. Thompson to prevail due to his clients’ rights, not his own. This was emphasized by the Court in noting that privilege is that of the client, not the lawyer, and could only be waived by the client. It went on to remark that if Parliament decided to rectify the disclosure scheme, it would have to build in a process for clients to participate and protect their rights in a situation such as Thompson.

Practice points

Solicitor-client privilege is the right of a client in the course of obtaining confidential professional legal advice, and for clarity it is not a right of the lawyer consulted.
Pursuant to Chambre, it is unconstitutional for CRA to require production of accounting records from lawyers and notaries, as that would presumptively compromise clients’ privilege rights. As regards the accounting records of other professionals, the relevant ITA sections remain in effect.
Parliament may act to amend the ITA to enable access to accounting records of lawyers and notaries, but will have to do so in a manner that continues to protect solicitor-client privilege.