Cottage – Page 2 – Doug Carroll

Estate and capacity planning for vacation properties across borders

When I was a boy, we had a modest cottage a couple of hours out of the city. Just getting there was an adventure, as my parents piled six kids and a dog into a Datsun 510 — with no air conditioning.

These days, it is not uncommon to have a vacation property in another province or outside the country altogether. Whether that’s a family getaway, a snowbird retreat, or a new Canadian continuing to hold property ‘back home’, our society lives across borders like never before.

With this modern mode of living comes complexity, particularly when it comes to estate and capacity planning.

Wills and estate transfers

Generally a Canadian Will is effective to deal with a person’s real property (real estate) in the home province, and personal property wherever it may be. In order to deal with real estate elsewhere, the Will would have be proven to the satisfaction of the courts/law in that other jurisdiction. While this is not an impossible task, it presents some additional cost, time and potential uncertainty.

With that in mind, it may be desirable to plan ahead by executing a second Will in that other jurisdiction. In so doing, it is crucial that the second Will doesn’t inadvertently revoke the person’s main Will, or otherwise alter distribution. Accordingly, there must be an open dialogue between the lawyers in the two jurisdictions.

Discussions with the foreign lawyer should include gaining an understanding of tax obligations (currently and for the estate), and legal responsibilities of the executor. This may necessitate adjustments in the home Will, or at least some informal guidance. Alternatively, it could lead to naming a distinct second executor, with appropriate allocation of powers and constraints between the two. This knowledge may even affect the owner’s longer term intentions for the property.

Incapacity while owning or being abroad

Arguably, the estate transfer is the easy situation as compared to having to respond to a crisis while an owner is living. While an estate transfer is a property matter, there are both property and personal issues that can come up while a person is living, with attendant greater urgency.

Powers of attorney (POAs) and powers of attorney for personal care (PAPCs) have been a recommended part of the estate planning process for decades now. And while it is usually intended that the power may be exercised wherever the grantor or property may be, challenges can crop up when foreign jurisdictions are involved.

Some jurisdictions require these documents to be executed in a prescribed form, include specific language or otherwise be constrained in some manner that may be at odds with the home jurisdiction’s rules. Even if there are no such formal impediments, there can be delays (and associated costs) as individuals, health care workers and businesses assure themselves of their obligations — perhaps even requiring them to seek their own legal advice before being able to take instructions.

As with Wills, it may be desirable to have parallel documents drawn up in the foreign jurisdiction in order to expedite action at critical times. In addition to the provisos about guarding against revocation and having open communications, some further questions should be canvassed:

Can the same person be named in both jurisdictions? Are there practical/logistical/linguistic concerns that may lean toward naming a different person in the foreign jurisdiction?
What events may cause an appointment to be revoked (eg., marriage, separation, bankruptcy)? If such rules differ between the jurisdictions, how will that be reconciled?
What is the scope of the attorney’s activity for each of the jurisdictions? Where there is a gap, how will this be handled?
If it is intended that the home jurisdiction attorney have ‘final say’, is this possible under the foreign jurisdiction’s rules? How can an attorney be removed?
Is compensation allowed/required/prohibited, and do the planning documents together guard against double compensation?
What checks are there to assure appropriate accounting and accountability for each attorney’s actions?

Cross-border developments

These concerns have been attracting greater interest in recent years, with two major developments worth noting.

In the summer of 2015, the Uniform Law Conference of Canada tentatively approved a uniform law on cross-border recognition of powers of attorney for both property and health care, health care instructions and similar documents. The Uniform Law Commission in the United States approved its draft in 2014. Provinces and states that incorporate the recommendations into their domestic law will enable their residents’ documents to be effective in all reciprocating jurisdictions.

In the area of estates, as of August 17, 2015, a new cross-border succession regulation is in force in the European Union (except Denmark, the U.K. and Ireland). It affects European citizens and residents, and European property held by non-residents. Canadians should consult with their lawyer whether any action is required on their part.

Claims against the legal title to a cabin, cottage, camp or ranch

At issue

Summertime … and the livin’ is easy – or at least that was the hope when the family vacation property was acquired.

Whether it’s the cabin, cottage, camp or ranch, there is emotion tied up in such places. And as usage rolls through to the next generation and beyond, conflicts can arise, feelings of entitlement can grow, and ultimately property claims may be asserted.

One such type of claim is the doctrine of proprietary estoppel, which could apply to any real estate, though it seems to play out more prominently with vacation properties in the case law. Someone who has made a financial contribution and emotional commitment claims to have rights to the property, despite not being on the legal title.

Willmott v. Barber (1880), 15 Ch. D. 96

The doctrine of proprietary estoppel was recognized in British courts as early as 1866, and by 1880 a formal test had developed. Assuming a male claimant against a female titleholder for illustration, the “five probanda” would have to be proven:

he mistakenly thought he had a legal right,
he spent money on the property based on that belief,
she knew the extent of her own rights,
she knew of his mistaken belief, and
she encouraged or acquiesced to the expenditure.

The test has been applied in Canada many times in the century and a half since.

Schwark v. Cutting, 2010 ONCA 61

This Ontario case involved owners of “lakeview cottages” claiming the right to pass across and use the land of a beachfront property owner. The parties had a running dispute over 20 years or more, though the beachfront owner had for a time granted access in exchange for his own family’s use of stairs constructed by the lakeview owners to reach the beach.

For our purposes, the important development is that the Ontario court somewhat simplified the test for proprietary estoppel (as UK courts had done about 30 years back), requiring only that there be:

encouragement of the plaintiffs by the defendant owner,
detrimental reliance by the plaintiffs to the knowledge of the defendant owner, and
the defendant owner now taking unconscionable advantage of the plaintiff.

In the result, the lakeview owners’ claims failed, as they were not under any mistaken belief as to their legal rights. The beachfront owner had granted permission for a time, but there was nothing unconscionable about an owner withdrawing permission.

Clarke v. Johnson, 2014 ONCA 237

Whereas Schwark and Cutting were arm’s length parties, this most recent case involves a single property with family connections among the litigants.

1n 1971, William and Martha Johnson purchased an island on Lake Panage near Sudbury, Ontario, which was termed ‘the camp’. In 1979, title was transferred to be held as one-third tenants-in-common with William’s two siblings. After William’s death in 2009, Martha continued as sole owner of a one-third interest.

Donald Clarke was married to the Johnsons’ daughter Victoria when, beginning in 1974, he built a dwelling and later added other buildings and improvements. The couple had two children, Misty in 1976 and Westley in 1977. Donald and Victoria separated in 1991, but Donald continued to use and manage the camp.

Donald’s son Westley returned from western Canada in 2009, desiring to make use of the camp. After some confrontation, Donald prohibited Westley from the property, following which Martha prohibited Donald from the property.

Supported by the other two legal owner families, Donald successfully claimed proprietary estoppel. The court determined that he would have succeeded whether using the formalistic historical test or the simplified test in Schwark v Cutting. Donald was granted a constructive trust to “regulate use during his lifetime or until he could no longer attend at the camp.”

Practice points

Though the executor may have broad authority pursuant to provincial law, this is not absolute in nature. There remain a number of obligations under common law that an executor must bear in mind when exercising the authority, the nuances of which can be discussed with a lawyer if problems appear to be arising:

Legal title is important, but it should not be assumed to be all encompassing.
While the more formal test expressed in Willmott may not be required in Ontario, even the streamlined test presents a significant hurdle to a would-be claimant. On quick review of case law, it appears that other provinces may also be backing away from the more stringent test, as may be confirmed with one’s own legal advisor.
Legal disputes can be costly. In the appeal phase alone, $21,800 costs were assessed against the appellant, which would be in addition to her own legal bill.

Cottage and cabin succession – Where law, tax and emotions meet

If there is one major asset into which emotional value is invested, it is the family cottage. For parents and children alike, it can represent far more than mere bricks and mortar. Deciding when, how and to whom to transfer the cottage can be among the most challenging decisions parents ever face.

Planning for this succession is as much art as it is science, including in the latter respect the legal and tax rules that will be brought to bear. Ultimately though, those rules have to be applied within each family’s unique interpersonal dynamic, and that’s where the art comes in.

Tax on transfer

The harsh reality for many is that costs – particularly pending taxes on capital gains – will drive the need to make a decision, and will constrain the choice of options. And to be clear, it is the current owners at a given point in time who bear that tax liability.

Outside of spousal transfers, a change in beneficial ownership results in a taxable disposition, with tax due based on half of the increase in value from the adjusted cost base (ACB) to the fair market value (FMV). The ACB is the acquisition price plus any capital improvements. As well, hopefully parent-owners were able to increase their ACB, to the extent their properties had unrealized capital gains, by as much as the $100,000 general capital gains exemption before it was eliminated in 1994.

Some tax relief may be available by claiming the principal residence exemption (PRE), though that would limit use of the PRE on future disposition of other currently owned residential properties.

Form of transfer

As mentioned, tax applies to the disposition of a beneficial interest. In arm’s-length real estate sales, this almost always directly accompanies the passage of legal title. This may not necessarily be so in family situations, whether by conscious choice or operation of law. Here are some common options:

Direct transfer

Again, beneficial transfer to anyone other than a spouse will be a taxable disposition, even if little or no consideration is given in return. The related capital gain is still based on FMV minus ACB.

In a sense, this is the cleanest break, in that all property interest immediately passes to the transferee child(ren). Still, there remains the matter of how title is to be held by more than one child. While joint ownership (described below) is possible, it will usually be preferable to hold ownership as tenants-in-common, which keeps interests more discrete, with the respective interest falling into that person’s estate on death.

Added joint owner

A central feature of joint ownership is that on the death of one joint owner, the surviving owners continue on together by right of survivorship. (This can assist in bypassing probate tax in provinces where it applies.) If a new owner is added, a proportionate disposition is deemed for the existing owners. As a simple example, if a widowed mother adds her only son, there will be a one-half disposition.

With the Pecore decision of the Supreme Court of Canada in 2007, joint ownership transfers may not always be so black and white. While the decision did not deal directly with tax issues, it suggested the possibility for a beneficial right of survivorship to pass at the point of the parent’s death. Arguably, this judgement enables a deferral of capital gains taxes, but a lawyer should be consulted as to the law’s current state as subsequent cases have interpreted it in different ways.

Tax-deferred trust transfer

Parents could transfer the cottage into an alter ego or joint partner trust for their current benefit, with the children as contingent beneficiaries. The property is not deemed disposed until both spouses die (when the contingent beneficiaries become fully entitled), at which time capital gains would be calculated and tax due.

Transfer into a lifetime trust

If the parents are not concerned about a current disposition but wish to maintain control, they could transfer to a general inter vivos trust. As trustees, they would continue as legal owners with the children as beneficiaries.

Estate distribution directly or via a trust

If the cottage is held through to the death of both spouses, the capital gains tax liability arises at that time. The cottage could then be transferred directly to the child(ren) (whether as tenants-in-common or joint owners), or it could be managed through a testamentary trust outlined in the last deceased’s Will.

Funding and other complications

Despite the brief explanations of these options, things can get very complex very quickly. While an important starting point, capital gains tax really is just the tip of the iceberg. Consider:

Are there creditor or matrimonial concerns anywhere?
What if joint owners won’t pay their fair share for maintenance?
Does a maintenance fund need to be pre-funded, especially where a trust is owner?
Who should act as trustees, and how might their decisions be monitored?
And practically speaking, who gets to use the cottage, and when?

These are all tough questions to raise, let alone answer. The key is to address them in a considered, timely and proactive manner that allows all the important issues to be canvassed.