I remember where I was when Kennedy was shot; I watched the Beatles live on Ed Sullivan.  Even so, I bristle when I see ads pandering to me and my fellow Boomers with old recordings fit for 8-tracks, not iPods.  But when I saw a recent issue of a legal magazine featuring estate planning for greying Boomers, things began to sink in: when it comes to inheritances, we are rapidly going from the receiving end to the giving end.  

But the usual estate planning content – updating your will, doing a power of attorney, a reverse mortgage here and there - misses a big point, namely that the demise of the older generation will involve the greatest wealth transfer in history (and there will be more than chump change left over when we Boomers ourselves leave the building). 

Trouble is, this enormous wealth transfer is converging with an increasingly complex legal environment, particularly in the income tax area.  This article presents some estate planning issues that will become increasingly important as wealthy Boomers age.  As will be seen, the issues in play go far beyond traditional estate planning considerations.  

U.S.Emigration

My generation and those which follow have unprecedented mobility, especially to south of the border.  If the emigrant is from an affluent family, it is possible, if not likely, that he or she will have an interest in an investment-type company, perhaps real-estate related or the holdco of an operating company which has generated excess cash.  Whether the interest is direct or indirect (e.g., through a family trust), the U.S. CFC and PFIC[i] rules, pertaining to “passive” income earned by foreign corporations, potentially come into play.  Often, there will be harsh U.S. penalties, onerous reporting requirements and the like.

Until a few years ago, there was very little written on this.  But the issues have gradually sunk in.  Many of the physicians who went to Texas years ago are now aging Boomers; and new problems will arise from the U.S. high-tech companies now grabbing young Canadian graduates.  Soon we Boomers ourselves will start to relocate to the sunbelt, along with our shareholdings - hand in hand with serious U.S. tax consequences to the unwary - not to mention the serious Canadian consequences stemming from ceasing to be resident: the departing shareholder must either cough up capital gains tax on the shares or furnish acceptable security to the CRA.

Whether the family member has gone to the States or elsewhere, the distribution of shares and most other assets from a family trust is now a taxable event based on the value of the shares at the time of distribution – whether or not the shares are taxable Canadian property.[ii] Tax on distributions to U.S. residents can be deferred by a distribution to an unlimited liability corporation rather than the U.S. resident.  It may be prudent to draft new trusts with this procedure in mind.

Canadian Beneficiaries of Trusts and Estates 

The transfer of wealth to Canadian Boomers may be from abroad.  If a Canadian is a beneficiary of a non-resident trust (including an estate), the foreign investment entity (FIE) proposals potentially apply.[iii]  If applicable, these proposals typically impose an income inclusion calculated by applying an imputed interest charge (currently 7%) to the “designated cost” of the interest in the non-resident entity.  The FIE proposals include an exemption for trusts which are completely discretionary; however, most discretionary trusts include “fail safe” clauses, which specify pre-set allocations/distributions, that are operative in the event of a failure to exercise discretion.[iv]  A recent article in an Ontario Bar Association tax section newsletter[v] alludes to an example where a lone Canadian resident is one of many beneficiaries of a large inter vivos trust established, say, in Hong Kong.  If there are no other Canadian beneficiaries, the usual FIE calculation may necessitate applying the deemed interest rate to the “designated cost” of the trust, which can be based on the trust’s entire gross assets.[vi]  And as I indicated in a fairly recent article,[vii] similar rules also apply to a Canadian beneficiary of a non-resident estate.[viii] 

Also, as a result of the non-resident trust proposals, transactions between a Canadian resident and a non-resident trust/estate - even if indirect - must be reviewed very carefully.  Various deemed contribution provisions may result in the trust being taxed like a Canadian resident – e.g., on its worldwide income[ix], if there is a “resident contributor”.

As can be seen from the foregoing, advising a Canadian beneficiary of a non-resident trust or estate may require nothing less than a detailed knowledge of the non-resident trust and FIE proposals - some of the most complex legislation around.

Deemed Disposition Rule – Twists for Generation Xers 

The fact that there is a deemed disposition of shares and other assets passing to another generation is nothing novel (although the amount of taxes collected from this rule in coming years may be).  What may change is the post-mortem planning strategy that may be best.  In the past, the tax resulting from the deemed disposition rules was looked at as a wasted expense, especially where the underlying assets, e.g., the family business, would continue to be held by the next generation. 

But is it?  The affluence of recent years has changed attitudes, particularly the offspring of wealthy Boomers.  The spectre of carrying on family businesses is often looked at as a burden rather than a privilege; instead, there may be increasingly more motivation to seek a more enjoyable life style, funded by family wealth.  Where this is held at the corporate level, there will be more pressure to extract these assets, to fund lifestyle choices.  In these circumstances, the deemed disposition rules may not result in the “wasted tax” that they might have been a generation ago: the terminal-period capital gains tax could be an efficient way to tax-pay future distributions of cash and other corporate assets in order to meet these objectives.  Along the same lines, practitioners should determine whether a corporate-level sale of the family business or other assets is in the cards.  If so, techniques which involve the bumping of cost base as part of a post mortem procedure may be attractive, especially if a capital dividend account or refundable tax is generated, as these tax accounts will allow tax-efficient distributions.