Keeping the Cottage in the Family

Summers at the cottage – boating, fishing, late-night bonfires and family dinners are important reasons to keep the cottage in the family.  So, take some time this summer to learn how to protect your treasured asset from taxes. 

Succession planning for the family cottage can be complex, especially when it will be shared by multiple family members who all have an emotional attachment to it.  Cottage values have increased significantly over the past decade and some beneficiaries may be forced to sell it just to pay the capital gain tax and probate fees.  The first thing you will need to determine is how much taxes and fees your estate will be required to pay when you transfer ownership onto the next generation.

Calculating Capital Gains Tax

This will occur when you sell, gift or pass on the cottage to your children upon death.  To calculate the capital gains tax you first determine the difference between the current selling price (fair market value) and what you paid for the cottage; including the costs of any upgrades (cost base).  This difference is then divided by two, that figure is the amount that is added to your income; and taxed in the year of death.  (e.g. your purchase price was $100,000, current selling price $300,000, taxable capital gain = $100,000 or  $300,000 - $100,000 = $200,000 / 2 = $100,000) Therefore if you are in a 50% tax bracket, your tax bill will be approximately $50,000.

Calculate Probate Fees

If you hold onto the cottage until death and leave it to anyone other than your spouse, some provinces (including Ontario) will impose a probate fee based on the fair market value of the cottage.  Probate fees can be as high as 1.5% of the value of the cottage at the time of your death.  Using the above example; $300,000 x 1.5% = $4500.

What to do?

Life insurance can be a very cost-effective method of funding the looming tax bill.  This type of funding can be an ideal solution for people with modest estates and/or want to guarantee that funds are available to pay the tax and ultimately avoid the sale of the cottage to upon their death. 

If you have a larger capital gain on your cottage than your home in the city, consider designating the cottage as your principal residence.  Once you determine which residence (home or cottage) should be deemed principal residence, your executor should be instructed to report the disposition on your final tax return.

You may also want to consider transferring your cottage into a trust.  This vehicle may be used for tax efficiency, creditor protection, and maintaining control of the cottage during your lifetime, or all three.

Finally, if you sell the cottage prior to death, you will avoid probate fees and can pay the capital gains tax that would otherwise be payable upon your death.  Furthermore, these proceeds can then be used to help fund your retirement income. 

Since tax rules change frequently and everyone’s circumstances are different, it is important to discuss your particular situation with your financial advisor, lawyer and accountant.  If you need help getting started give me a call.

Have a great weekend at the cottage,

Tracey

 

 

 

 

Source:  Original article by Mike George and Staff at Advisor.ca published 10-01-11 and 05-17-13.