In today’s interconnected world, the complexities of estate planning have transcended national boundaries, especially for Canadian residents whose affairs touch upon the laws of other jurisdictions. Canadian residents can have foreign ties that include property ownership outside of Canada (foreign property), spending significant time outside of Canada, inheriting non-Canadian assets, or having non-Canadian-resident beneficiaries. Each of these scenarios carries its own set of legal and tax implications, requiring a thorough understanding of cross-border estate planning and an up-to-date knowledge of applicable tax rules. That is why involvement of legal experts from the relevant foreign jurisdictions is often necessary and strongly recommended.
Canadian Residents Who Own Property Outside of Canada
The handling of foreign property is one of the primary concerns in cross-border estate planning. Canadian law treats all assets of a deceased person as disposed of at death, and that can potentially incur taxes on income and capital gains, as well as provincial probate fees. For Canadian residents owning property abroad, it’s critical to determine whether additional foreign taxes apply.
Foreign jurisdictions might impose estate, inheritance, or other succession taxes, especially on immovable property like real estate or business assets. One must carefully navigate through key provisions of various tax treaties that Canada has with other countries, which aim to prevent double taxation and facilitate smoother cross-border financial activities. Often, these treaties follow the Organization for Economic Co-operation and Development (OECD) model, providing relief from capital gains taxes on movable property for non-residents of a foreign jurisdiction, and allowing a foreign tax credit against the Canadian taxes payable for immovable property in a foreign jurisdiction.
Canadian estate planning documents, such as a Will and Powers of Attorney, should be reviewed by legal professionals in the jurisdiction where foreign property is located to ensure that they are recognized and do not conflict with any local legal rules and instruments. It may also be advisable to prepare foreign estate planning documents that effectively address immovable assets in that foreign jurisdiction.
Canadian Estate with a Non-Resident Beneficiary
Handling estates with non-Canadian-resident beneficiaries introduces additional complexities. Distributions of income to such beneficiaries may be subject to Canadian withholding taxes, which can be reduced under various tax treaties. However, the non-Canadian-resident beneficiary must handle compliance in their resident country, possibly claiming a foreign tax credit for taxes withheld in Canada.
The general Canadian withholding tax rate is 25%, although this amount may be reduced pursuant to a tax treaty between Canada and the country in which the non-Canadian-resident beneficiary resides. The withheld tax must be submitted to the Canada Revenue Agency (CRA), and the filing of additional forms and documentation may be required for reporting the income distributed and foreign tax withheld.
When a Canadian estate makes a distribution of capital to its Canadian beneficiaries, that transfer can occur on a rollover basis, meaning the beneficiary can receive capital with a cost basis equal to that of the deceased’s estate (usually the fair market value of the property upon death). However, this rollover is not available to non-Canadian-resident beneficiaries. Instead, when a Canadian estate makes a partial or full distribution of capital to a non-Canadian-resident beneficiary, the CRA has historically taken the position that the non-Canadian-resident beneficiary is deemed to have disposed of their interest in the Canadian estate. If anytime within the prior 60 months (5 years) 50% or more of the value of the Canadian estate interest is attributable to real property in Canada, the interest in the Canadian estate meets the definition of “taxable Canadian property”, and the following should occur:
- The estate trustee(s) must require that the non-Canadian-resident beneficiary obtain a compliance certificate from the CRA when distributions of capital are made.
- A Form T2062 Request for a Section 116 Compliance Certificate must be filed within 10 days of the capital distribution, although it can be filed in advance. Note that a separate request must be filed for each partial or full distribution.
Where income is distributed, 25% of the income allocated must be withheld and remitted to the CRA with the request. Where property is distributed, 25% of the estimated capital gain must be withheld and remitted to the CRA. Note: The amount withheld may be reduced as a result of the treaty between Canada and the country in which the non-Canadian-resident beneficiary resides.
- Where only cash is distributed, the cost and fair market value are equal, so no withholding tax has to be remitted with the request.
If a Form T2062 is not filed, the estate trustee(s) may be personally liable for failure to deduct and remit the 25% withholding tax and for the tax payable by the non-Canadian-resident beneficiary in respect to distributions of taxable Canadian property.
Canadian Estate with a Non-Canadian-Resident Executor
When a Canadian resident passes away, the estate is considered a trust, and the executor(s) is/are trustee(s). The residency of a Canadian trust is a question of fact which the Canadian courts have determined is based on where the central management and control of the trust takes place. Therefore, choosing a non-Canadian-resident executor can significantly complicate estate administration, and can also cause delays since in order to act, the non-Canadian-resident executor has to apply to the Canadian Courts and possibly even post a bond. The residency of the estate, for tax purposes, may shift out of Canada if the trustee(s) are non-residents of Canada or manage the estate from outside of Canada. This shift could impact the taxation of the estate’s income and capital gains, which is why appointing Canadian resident executors, where possible, is generally recommended to avoid complications and ensure smoother and more expedient estate administration.
When a Non-Canadian Trust Deemed a Canadian Resident Trust
As stated above, the residency of a Canadian trust is a question of fact which the Canadian courts have determined is based on where the central management and control of the trust takes place. However, to prevent the use of offshore entities for tax avoidance, the Canadian tax system also includes deeming provisions to tax foreign trusts that involve a Canadian resident contributor or beneficiary. These are very complex rules that can capture many unsuspecting individuals, and they require careful planning and strict compliance to avoid penalties. Each situation is unique, and should be analyzed individually.
Canadian taxpayers who loan, transfer, or contribute funds to a non-Canadian-resident trust must report those transactions by filing a Form T1141 Information Return in Respect of Transfers or Loans to a Non-Resident Trust. Significant penalties may be incurred if this information form is not filed − or is filed late or incorrectly.
Foreign Gifts or Inheritance Received by a Canadian
When Canadians receive inheritances from abroad, these are generally not taxed as gifts in Canada. However, the recipient needs to be mindful of the cost basis of the inherited property, which is set at the fair market value at the time of acquisition. If the inheritance includes foreign property valued over $100,000 CAD, the beneficiary may have to file a Form T1135 Foreign Income Verification Statement annually, with significant penalties for non-compliance.
If a Canadian beneficiary receives a distribution or loan from a non-Canadian-resident trust, the beneficiary may be required to complete Form T1142 Information Return in Respect of Distributions from or Indebtedness to a Non-Resident Trust. Significant penalties may be levied if this information form is not filed or is filed late or incorrectly. There is a filing exception for distributions received from an estate that arose upon and as a consequence of death.
Conclusion
Navigating the complex web of estate planning for Canadians with foreign ties requires a deep understanding of both domestic and international tax laws. One must recognize when to handle matters themselves and when to seek expert advice from qualified professionals knowledgeable in the laws of the relevant foreign jurisdictions. Please contact Cardinal Point to help ensure compliant, efficient, and effective estate planning that serves your best interests while minimizing tax burdens and legal complications.