Insurance Journal – Page 7

Applying a multiple will strategy for probate reduction and privacy

At issue

While we most often speak of a person’s last will and testament in the singular, the practice of using multiple wills has a long history. There are a number of reasons why a testator might want to have more than one will, most commonly:

Reducing probate tax in jurisdictions where that is a material concern,
Protecting the privacy of the deceased and beneficiaries by shielding against potential disclosure of the nature and value of assets in public/court documents and processes, and
Providing for less costly, more timely and generally less complicated procedures for dealing with real estate outside the deceased’s home jurisdiction.

In a purely domestic arrangement, the usual process is for the lawyer to concurrently prepare a primary will that deals with the estate generally, and a secondary will that carves out certain assets. This secondary will is often called the ‘non-probate’ will, assuming probate reduction is a prime motivation. Though probate is a small percentage cost to an estate, where multi-million dollar assets such as private corporation shares are involved, the absolute dollar cost can be substantial.

Where foreign real estate is added to the mix, things can be even more challenging. Coordination is not only required among documents, but also from one lawyer’s office to another.

Clearly, informed intentions and coordinated professional advice are critical to reaping the benefits of this sophisticated strategy.

Granovsky Estate v. Ontario, 156 DLR (4th) 557

Heard in 1998, this case involved a carefully executed dual will strategy isolating $25 million of private corporation shares in a secondary will. The Ontario government sought to add the shares to the $3 million in the primary will for calculation of the probate fee (now known as estate administration tax). This would increase the probate fee by $375,000 (in 1995 dollars).

Ontario Estates Act section 53(1) required that probate fees were to be paid “upon the value of the whole estate, including the real estate as well as the personal estate.” [emphasis added] However, section 32(3) allowed for a limited grant of probate allowing an applicant to “set forth in the statement of value only the property and value thereof intended to be affected by such application or grant.” [again, emphasis added]

The court considered multiple wills cases as far back as the late 1800’s, reviewed the evolution of the current statutory provisions, and even marked the origin of probate fees in 1358. Those fees originally applied only to personal property, not real estate.

With respect to the Ontario legislation, the judge noted that “[it] was later added as real property within the jurisdiction, and this would account for the “whole of the estate” in s. 53 of the Act.” So while s.53 extends the probatable estate to include real estate, s.32(3) allows a testator to select which assets will be governed by a given will, including using a secondary will for assets that do not require probate.

McLaughlin v. McLaughlin, 2014 ONSC 3162, 2014 ONSC 5046, 2015 ONSC 3491, 2015 ONSC 4230, 2016 ONSC 481

In an effort to reduce probate/estate administration tax, a testator’s secondary will purported to deal with one parcel of real estate separate from other assets. Unfortunately there were some clerical drafting errors that duplicated bequests from the primary will, and there was no residue clause.

The case serves as a lesson as to the need for carefully coordinated drafting. As well, it illustrates how longstanding family conflict (over 20 years in this case) can carry through to estate turmoil, with the family returning to court five times, though in fairness two of those dates were to address costs rulings.

Practice points

Granovsky enables the use of multiple wills to reduce probate (estate administration tax) in Ontario, and it has been followed in some provinces. However, some provinces specifically disallow the strategy, so a qualified lawyer should be consulted.
Bear in mind that establishing the strategy and keeping it up-to-date requires some cost and effort. The documents must be drafted such that they do not revoke one another, and so that no conflicting double-dealing arises.
As well, the wider the variety of assets referred to in the documents and the more frequent those change, the greater the cost of re-drafting and the possibility that something may fall between the cracks.

Claiming medical expense tax credit on hot tubs, pools and warm weather

At issue

The medical expense tax credit (METC) may be a bit of a mystery for the average taxpayer. Likely this is because it is intended to capture large outlays (individually or in aggregate), leaving smaller amounts in each taxpayer’s hands. To the point, the credit is only available on expenses in a year that exceed the lesser of $2,000 and 3% of net income.

But for those with a standing medical condition, the METC addresses a fundamental financial need. It is also a substantial government spend — and unfortunately is open to abuse, particularly where an element of leisure attaches to large ticket items. On closer examination though, what is a luxury to some may be a necessity to others, irrespective of tax considerations.

Hot tubs and hardwood

In the early 2000’s there were a number of court cases and Canada Revenue Agency (CRA) letters dealing with hot tubs and hardwood floors. Generally a medical practitioner had recommended the former for alleviating mobility problems, and the latter for asthma sufferers.

CRA letters usually opined in the case of hot tubs that at best the installation costs may be allowed. The court dispositions were not always consistent. Here’s a selection:

Gibson v. Canada, [2000] T.C.J. No. 753 – Costs of renovation for installing hot tub could be claimed, but not hot tub itself. (Fybromyalgia with severe neck pain)
Donahue v. The Queen, 2003 TCC 888 – Cost of hot tub is an allowed medical expense. (Severe chronic back pain)
Canada v. Klywak, 2005 FCA 354 – Cost of hot tub allowed as a device that is designed to assist an individual in walking. (Fybromyalgia impairing walking and other mobility)

These and other cases conducted under the informal procedure relax the rules of evidence and are not binding on other courts. Adding to uncertainty, more than one judge had allowed the hot tub cost in one case while denying in another. Outcomes were fact-dependent.

2005 Federal Budget and after

The 2005 Budget amended the criteria for claiming medical expenses. The supporting notes to the Budget explicitly referred to Department of Finance concerns with hot tubs and hardwood floors.

Income Tax Regulation 5700(i) was amended to limit mobility claims to devices “exclusively” designed to assist “walking”, effectively over-ruling future claims akin to Klywak. And an over-riding test was added at Income Tax Act s.118.2(2)( l.2), requiring that any alterations or additions:

could not increase the value of a dwelling, and
could not be a cost that someone without mobility challenges would typically spend.

Pools and warm weather

The new provisions shifted judicial analysis toward these legal tests, leaving less latitude for discretionary fact-driven outcomes.

Barnes v The Queen 2009 TCC 429 – A regular swimming pool used for rehabilitative physiotherapy does not meet the second part of the new test as it is something that a person with normal mobility might install. (Cerebral palsy and Special Olympics training)
Johnston v The Queen 2012 TCC 177 – Hot tub solely used for subject person shown to assist wheelchair mobility throughout home, but still fails the second part of the new test. (Cerebral palsy, related quadriplegia, and contractures of limbs)
Sotski v The Queen 2013 TCC 286 – Replacing relatively new carpet with inexpensive laminate flooring satisfies all requirements. (Parkinson’s condition with serious trip/fall concern)
Tallon v. The Queen, 2015 FCA 156 – And as to that warm weather? A taxpayer initially succeeded on claiming costs of being in a warm southern climate to alleviate chronic joint pain experienced during the cold Canadian winter, but was later reversed on appeal.

Practice points

The selection of cases here is not comprehensive, but rather shows the range of outcomes, and that each situation is unique.
Even so, the rules are much tighter since 2005. As more than one judge has stated: “The bar has been clearly set high by Parliament.”
As Sotski shows, it may still be possible to succeed on a claim under the new rules, less likely though that may be for hot tubs and pools.

Insurance premiums could retroactively disqualify rollover to spousal trust

At issue

Life insurance is a regularly-used estate planning tool, often quantified in part to satisfy a capital gains tax liability on death. As capital property can transfer – or ‘rollover’ – between spouses at adjusted cost base (ACB), insurance proceeds for this purpose would not be required until the second death of the two, and the insurance may be structured with that in mind. (In this article, the term spouse includes a common-law partner.)

Trusts are also central tools in wealth and estate planning. A transfer of capital property to a spousal trust can (but does not have to) occur on a rollover basis. As long as the trust does not dispose of that property during the spouse-beneficiary’s lifetime, capital gains recognition will be deferred until that person’s death.

But where life insurance and a spousal trust are married together (pun intended), it could lead to a retroactive negative tax result.

Income Tax Act (ITA) Canada – Sections 70(6) and 73(1.01)

The main rules enabling a rollover to a spousal trust are in ITA s.73(1.01) for inter vivos (lifetime) transfers, and ITA s.70(6) for testamentary transfers. For present purposes, the requirements are essentially the same either way. The result of the successful application of the rules is that the transferor has deemed proceeds equal to his or her ACB, and the trust is deemed to have acquired the assets at that same amount.

In addition to both the parties having to be Canadian residents at the time of the transfer, the trust must comply with ongoing rules regarding income entitlement and access to capital. Specifically,

The spouse-beneficiary must be entitled to all income of the trust during his/her lifetime; and
No-one but the spouse-beneficiary may receive or otherwise obtain the use of any of the income or capital of the trust before that person’s death.

Carefully reading the second proviso, the spouse-beneficiary does not have to be entitled to the capital in order for the rollover to apply. A typical application might be a second-marriage spouse-beneficiary having use of a house, cottage or other capital for life, with the capital to be distributed to the first-marriage children upon the beneficiary’s death.

2014-0529361E5 (E) – Spousal trust & life insurance, November 16, 2015

This CRA letter deals with the use of trust assets to pay life insurance premiums, where the proceeds of the insurance will be paid to a policy beneficiary.

At issue is the constraint on access to the capital of the trust. Though the contents of the taxpayer’s letter are not quoted directly, the CRA letter begins with an acknowledgement of common ground “that the relevant legislation does not contain a requirement that the spouse “benefit” from the trust while alive.” However, it goes on to raise the concern whether someone other than the spouse-beneficiary may be obtaining the use of the trust capital or income.

The taxpayer’s argument appears to have been that as nothing is received before the spouse’s death, the premium payments should not be considered as property used by the residual beneficiaries. This position is rejected, and instead characterized by the CRA as the use of trust property to establish the residual beneficiaries’ rights to the funds from the policy, the realization of which will simply occur after the death of the spouse.

The upshot is that payment of such insurance premiums would disqualify the trust from ever being a spousal trust eligible for a capital property rollover.

Notably, it took the CRA a year-and-a-half to respond to this letter, which is a bit longer than usual. The opening states that the “submission received careful consideration”, an unnecessary but arguably telling indication that extended time was required to grapple with the merits of the arguments. As well, the closing advises that the submission was also forwarded to the Department of Finance, the responsible legislative department (as compared to the CRA being an administrative body).

Practice points

Life insurance remains a useful tool for dealing with tax liabilities, but its ownership, funding source and beneficiary designations must be carefully considered in light of CRA’s position in this letter. Any contemplated workaround (for example a parallel trust for the insurance alone) should be reviewed by legal and tax advisors to be sure the problem is adequately addressed without causing other undesirable consequences.
Some insurance-based concepts, for example an insured annuity, may be positioned as a means to improve investment returns. Though they may be shown not to harm a spouse-beneficiary – and possibly even to increase lifetime income – such concepts would appear to be problematic for spousal trusts.
CRA’s open notice that it was sharing the submission with the Department of Finance may be a ray of hope that this may not be the final word on the issue.