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Is Now the Right Time for an Estate = Freeze?
Is an Estate Freeze the right tax move?
In the midst of COVID-19 and the surrounding economic uncertainty, = Canadians=20 have found themselves significantly impacted. Business owners have = seen=20 their enterprises grind to a halt, while investors have watched their = portfolios=20 bottom out. With much out of our control, it may still be possible = to=20 regain control by taking advantage of the current conditions with = tax-saving=20 measures to provide some financial security and future certainty.
What is an Estate Freeze and why might you benefit from one=20 now?
An Estate Freeze is a mechanism by which the value of an = individual=E2=80=99s assets,=20 including an active business, can be =E2=80=9Cfrozen=E2=80=9D at a = particular moment in=20 time. To see why an Estate Freeze may benefit you now, = it=E2=80=99s important to=20 understand the tax implication on death for an individual holding = private=20 company shares and/or investments directly.
Capital gains are imposed on death by way of a =E2=80=9Cdeemed = disposition=E2=80=9D on=20 private company shares and investments to the extent of the = =E2=80=9Cgain=E2=80=9D which is=20 equivalent to the market value of the asset over the amount of its = cost. =20 In a typical example, a security purchased for $100 and worth $1000 on = the date=20 of death will give rise to a $900 capital gain of which 50% ($450) is = included=20 in income and subject to tax. In the case of private company = shares, most=20 of which were likely subscribed for by the initial shareholder at a = nominal=20 value (for example, $10 on incorporation), the value of the capital gain = on=20 death can be quite substantial if no tax planning is undertaken prior to = death=20 and the business has appreciated significantly. The result of this = can be=20 a large capital gain on death and a large tax burden to the = beneficiaries of the=20 estate.
Before undertaking an Estate Freeze, the taxpayer may have to perform = an=20 additional step to move his or her assets into a corporation. Once = a=20 shareholder of a private company, the individual may perform the Estate=20 Freeze. With a properly administered Estate Freeze, the = taxpayer=E2=80=99s shares=20 are essentially converted from participating common shares into = =E2=80=9Cfrozen=E2=80=9D=20 preferred shares, which are equivalent to the value of the common shares = they=20 exchanged but which do not participate in future growth of the assets or = business. Generally, new shareholders, such as the next generation = or a=20 family trust, become the new common shareholders and can participate in = future=20 growth as the assets and business appreciate in value. As the = business=20 and/or assets increase in value over the years, that increase is = attributed to=20 the participating common shares, while the taxpayer=E2=80=99s frozen = preferred shares=20 can never increase in value.
When undertaken properly, significant tax and family objectives may = be=20 achieved. Along with =E2=80=9Cfreezing=E2=80=9D the maximum = capital gain tax liability to=20 today=E2=80=99s value at the time of death, a correctly made gift of = shares to a child=20 during a child=E2=80=99s marriage should fall outside of the ambit of = that child=E2=80=99s =E2=80=9Cnet=20 family property=E2=80=9D meaning it should not have to be shared with = that child=E2=80=99s=20 spouse in the event of a breakdown of the marriage.
An additional benefit is that every individual is entitled to what is = referred to as the =E2=80=9CLifetime Capital Gains Exemption,=E2=80=9D = which can currently=20 shelter up to $883,000 of capital gains on the sale of certain types of = active=20 business corporation shares. If available, a taxpayer can freeze = their=20 shares and, if new shareholders are introduced as part of the estate = freeze, can=20 multiply the number of capital gains exemptions that can be available on = the=20 sale of the shares down the road, potentially resulting in significant = savings=20 in the future.
Is now the right time to undertake an Estate = Freeze?
If you believe the value of your assets and/or business have hit a = low point,=20 it may be the right strategy to capture this lower value (and minimize = your=20 future tax burden) in new frozen preferred shares which would not = increase in=20 value as the markets, and your business, recover down the = road.
If, in the past, you have already performed an Estate Freeze and = already own=20 frozen preferred shares, you may still take advantage of the reduced = value of=20 your underlying business and assets and lower your future tax bill by = completing=20 a =E2=80=9Cthaw=E2=80=9D of those frozen preferred shares and = =E2=80=9Cre-freezing=E2=80=9D at today=E2=80=99s lower=20 value.
How does a family trust fit in to an Estate = Freeze?
A family trust can be implemented at the same time as the Estate = Freeze to=20 hold the participating common shares and can provide you with additional = flexibility and tax planning opportunities, as well as allow you to = maintain=20 control of your business and assets. A properly formed family = trust can=20 assist not only with tax planning, but with family and even creditor = protection=20 objectives.
How we can help
We remain committed to paying attention to the changing circumstances = and=20 taking advantage of planning opportunities. Contact a Dickinson = Wright LLP=20 team member to discuss your current financial situation and see what is = the best=20 option for you.
Please Note: These materials do = not=20 constitute legal or medical advice. Government initiatives, = announcements, and=20 regulations in response to the COVID-19 situation continue to evolve and = change=20 frequently.