Well, this is kind of awkward, but here goes: You’re going to die. It’s not fun to think about, but it is worth doing, because knowing what will happen to all your money after you die can give you peace of mind while you’re alive.
Here are some of the major things to think through well before you shuffle your first canasta deck — and (hopefully much, much later) this mortal coil.
Beneficiaries. You’ll want to set beneficiaries for most of your financial assets, including life insurance policies, RRSPs, and TFSAs. Otherwise, those funds go into your general estate when you die, which can slow down the speed at which your money gets to the people you want it to. It can also lead to substantial tax implications. Basically, if you have an asset that can have a beneficiary, name one. You can always change it later.
Power of attorney. Power of attorney is a document that essentially hands control of your well-being to someone else — someone you trust to make decisions for you, should you not be able to make them on your own. That could cover everything from finances to medical issues. While power of attorney setups can vary greatly, basic options can be fine for many people. Most provinces have a default form to get you started.
Wills. Powers of attorney are handy when you are alive, but once your body no longer supports that feature, your will takes on a pretty important role.
Wills come in many forms, but they all have the same basic function: making sure everybody knows what you want to happen to your stuff. Without a will, the state may well decide where your assets go, and they won’t necessarily make the same choices you would have.
Despite how crucial wills are, fewer than half of Canadians currently have one. And that poses a potential problem because, along with distributing your assets, wills can also help you minimize tax liabilities. For example, if you have an RRIF or RRSP, transferring them to a surviving spouse or common-law partner avoids taxes until that person withdraws the money as income. Designating them to a dependant or other beneficiary means they’ll be taxed as income on your final tax return.
For a long time, you had to find a lawyer to set up your will, which can cost thousands of dollars. While that is useful to those with multiple boats and/or children vying for control of your conservative media empire, if you have a relatively simple estate (you want to spread your wealth among a few non-quarrelsome offspring, and maybe a charity that was important to you), you can often get away with using a less-expensive online option.
Trusts. A trust allows you to pass your assets — whether that’s a home, cash, investment portfolio, or that international spoon collection you worked so hard on — on to another person. But unlike a will, the assets are held by the trust for the benefit of the beneficiary (who may or may not be named Benny).
There are three parties to every trust:
Grantor. The person with the stuff to give away. They set the rules on how the asset is distributed. In the case of a portfolio, that can include how much income, appreciation, or principal is paid out and how often.
Trustee. The person who oversees the trust for the person receiving the assets. The grantor can, and often does, name themselves trustee. Which means, yes, a trust can be established before your death. If the grantor is not the trustee, it can be a relative, business associate or another trusted party.
Beneficiary. The person who gets the stuff.
If you’re well-to-do, a trust can help you save money on taxes in the short-term. With most trusts, once you put assets in them, those assets belong to the trust. Which means you won’t be taxed on any income they generate — interest, dividends, etc. Additionally, if you're in a high tax bracket and you have a child in a low tax bracket, putting income-producing assets in a trust distributed to that child effectively reduces your overall household tax rate.
Trusts can also be used to designate how your beneficiaries spend their inheritance. This isn’t necessarily because you, the grantor, are a control freak, although sometimes that is the case. More often than not it’s because the beneficiary may not be equipped to handle that money for one reason or another.
Like anything complicated and financial, there are lots of versions of trusts. Here are two of the more important distinctions to understand:
testamentary vs. inter vivos trusts. Testamentary trusts only apply when you're dead. They are ways of passing your assets on to your heirs. All other trusts are inter vivos, which just means living trusts. They’re called that because, well, you are still alive.
revocable vs. irrevocable trusts. An irrevocable trust cannot be changed once it’s established. A revocable trust can, which is nice for people who want to reserve the opportunity to change their minds. (One common use for revocable trusts is if you want to leave money to your grandchildren, but they may not all be born yet.) While a revocable trust sounds like the smarter play, it does come with one big catch: in the eyes of the government, all the assets in a revocable trust are still part of the grantor’s estate, which means you’ll still be taxed on the income they generate.
Trusts can also be helpful ways to pass down property. Consider the case of a family cottage. When you sell that property, there’s taxes to be paid on any capital gains. Even if you don’t sell — if you die and leave it to your heirs in your will, but not a trust — that’s a “deemed disposition,” which means your beneficiaries will have to pay tax on it if they want to keep it. If they can’t afford those taxes, then they have to sell.
If you were to put the cottage in a trust while you’re still alive, however, that is the deemed disposition. Which means you are in control of when the tax bill comes and making sure that it can be paid. From that day forward, the trust owns the cottage. And since the trust has already paid the capital gains tax, as long as the trust owns the cottage, your beneficiaries won’t owe taxes when they inherit it.
