By: Florence Marino B.A., LL.B., TEP | Vice President, Tax & Estate Planning and Kim G C Moody FCPA, FCA, TEP
One of the most significant tools in post-mortem planning to avoid possible double taxation – the ability to carry back capital losses from the estate to the terminal return of the deceased taxpayer which can then be applied against the deemed capital gains realized upon death – had a real impediment. It needed to be carried out “within the first taxation year of the estate.” On August 12, 2024, draft legislation was released by the Department of Finance that provided a technical amendment to expand that time frame to “within the first three taxation years of the estate”. This amendment applies to taxation years of graduated rate estates (GREs) of individuals and individuals who die on or after August 12, 2024.
Importance in the private company context
As mentioned above, post-mortem capital loss carry-back planning helps to alleviate the “double-tax” problem that results from:
- a deemed disposition of appreciated shares of a private company at fair market value (FMV) in the hands of a deceased individual (under subsection 70(5) of the Act) resulting in a capital gain,
- acquisition of the shares by the estate at a tax cost equal to the FMV at death with no adjustment to paid-up capital (PUC) of the shares, and
- a subsequent distribution to the estate on a redemption of the shares (or winding up of the corporation) resulting in tax to the estate as a taxable dividend.
To avoid taxing the proceeds as both a dividend and a capital gain, the Act reduces the proceeds of disposition to the estate on a redemption by the amount of the deemed dividend, resulting in a capital loss that can be carried back to offset the capital gain in the deceased’s hands using 164(6). This allows one level of tax to occur on the dividend while the capital loss can offset the capital gain of the individual.
Where life insurance is in place, the redemption proceeds can be satisfied with life insurance proceeds and capital dividends arising from life insurance death benefits used on the redemption to the extent possible (subject to limitations imposed by the stop-loss rule in subsection 112(3.2)).
Time was of the essence
Before this amendment, the GRE was required to dispose of capital property within the first taxation year of the GRE for a capital loss to be carried back under 164(6). In reality, the taxation year of the GRE can range from 1 day to a maximum of 365 days from the date of death, depending on the year-end selected by the personal representative. Even where the maximum was selected, estate administration can often far exceed one year. Estate litigation, probate administration, family law issues, dealing with minor beneficiaries, cross-border assets are just a few of the challenges a personal representative must deal with and can result in delays. This is on top of the natural emotional distress that comes at a time of grief which can often delay administration.
In order for the personal representative to engage in tax-effective post-mortem planning, obtaining the financial statements, corporate tax returns, asset valuations, ACB/PUC information about the private corporation holding(s) is critical to develop that plan. A business valuator may also need to be engaged to determine correct corporate values. And if subsection 164(6) was to be used, all the steps required to legally effectuate the plan within the first taxation year of the GRE, needed to be done.
While “pipeline planning” could be implemented over a longer time frame, ideally, subsection 164(6) planning could consider available tax attributes and pool balances for the private company such as refundable dividend tax on hand (both eligible and non-eligible), general rate income pool and existing CDA and any CDA from the receipt of life insurance death benefit proceeds to provide the most tax-efficient approach. Sometimes, there just simply wasn’t enough time.
And of course, the worst case was no planning – a deemed disposition on death and a subsequent winding up of the company after the loss carry-back time frame – resulting in double tax. This actually happens and unfortunately the authors have seen this result all too often. At least this technical amendment allows for proper consideration and advice to be obtained and implemented in a reasonable time frame.
Advocacy past and present
This recent technical amendment was made in response to a Submission made by the STEP Techncial Tax Committee dated June 21, 2024 (See: Post-mortem planning – Some updates – Tompkins Insurance). However, it comes after many years of advocacy on this subject. STEP Canada, for example, held a Department of Finance Roundtable in Calgary and advocated for this expanded period in the early 2000s with other organizations also asking for it.
Welcome change
This change will allow time for a more thoughtful approach to occur for post-mortem planning. Thinking ahead should also involve life insurance planning to deliver liquidity and CDA to integrate with post-mortem planning.
FOOTNOTE:
This publication is protected by copyright. Tompkins Insurance is not engaged in rendering tax or legal advice. TOMPKINSights contains a general discussion of certain tax and legal developments and should not be construed as tax or legal advice.
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