Co-ordinate family trusts to help a disabled heir

The situation

Aidan Grier* was surrounded by love from the moment he entered the world. Upon discovering that Aidan was born with cerebral palsy, his parents, Kina and Shane, resolved he would have as many opportunities as possible. They fought to put him in top-notch therapy and development programs, even when it meant working double shifts and forgoing luxuries to afford the cost.

It was all worth it. Aidan’s now 18 and thriving. He needs specialized care, but he’ll be graduating high school next year, and he’s starting to think about university.

Throughout this journey, Aidan’s grandparents have also been invaluable supporters. All four are elderly, and all four have created trusts for Aidan in their wills. Kina’s parents (aged 88 and 92) have each set aside $100,000. Shane’s mom (age 79) has set aside $150,000 via an insurance policy payable to a testamentary trust, and Shane’s father (age 91) has set aside $50,000, also via an insurance policy payable to a testamentary trust. That makes Aidan a beneficiary of four testamentary trusts, with total capital of $400,000. All grandparents are based in Manitoba, where the Grier family also lives.

As of 2016, testamentary trusts are taxed at the highest marginal rate unless the trust is a Qualified Disability Trust (QDT) or a Graduated Rate Estate (GRE). But CRA has confirmed that only one trust per tax year can be a QDT. In addition, CRA has confirmed that, if all four trusts meet the proper criteria, all could jointly elect with Aidan to use the preferred beneficiary election (PBE), which would allow the trust’s income to be taxed in Aidan’s hands, even if it’s not paid out to him. Aidan qualifies for the Disability Tax Credit. What must the Grier family consider when doing their planning?

Designating a QDT

Natalia Angelini: When we look at which of the trusts to designate, which one is likely to generate the greatest income? The insurance trust sort of stands out right away, but you pair that with another consideration, which is the trust that’s going to be settled first.

If you look at the ages of each of these grandparents, obviously the one first to die is the trust I would want to designate as the QDT. There’s no election necessary until death. You can wait until whoever dies first to designate the QDT.

There’s no requirement that one has to be designated, so the next year perhaps another grandparent dies who maybe has a better trust that’s going to be more favourable. You can change the designation each year if necessary.

Wilmot George: I agree. You want to see which trust is likely to produce the most taxable income, and that’s likely the best trust to designate as the QDT. Very often, you’d look at the largest trust and say, “OK, that one would likely generate the most income,” but of course it depends on the investments within the trust as well, and any activity within the trust.

The other thing is, how many families are going to want to have to look at all of these trusts and determine which one should claim the QDT each year? That can become cumbersome and difficult to administer annually. Practically, many families would like to look at one trust and claim that as the QDT, and there is some opportunity to shuffle between the trusts if it makes sense.

Another thing is whether other beneficiaries who are not disabled will be named to the trust. Be cautious, because other beneficiaries can compromise the trust’s QDT status, which can result in a recovery tax if you have certain payouts going to them.

Family meeting

Michael Bellamy: The other thing is sitting down and having family meetings. We don’t really know whether both grandparents have talked, or if they have talked with the parents, and if they are actually having family meetings and discussing what their plans are for leaving a trust to Aidan. By having that communication, they may be able to work out some things prior to passing away.

They could help to alleviate the fact that he may have four trusts. They could look at Shane’s father, who’s 91, versus his mom, who’s 79, and the potential for Shane’s father to leave a $50,000 insurance policy to Shane’s mom. Then, her doing a larger contribution to the trust upon her passing could be an option.

They could consolidate by essentially changing the insurance beneficiary, the primary being the two grandparents with the insurance policy, and the secondary being the trust. Obviously, this is in case something happens to both grandparents at the same time.

NA: It certainly would be helpful if the four of them could do the planning collectively.

This is something we talk about in our practice but very few clients are interested in doing it, usually because they know they are going to be met with some blowback from some family members who aren’t pleased with the testamentary planning set out by the testator.

I would love to see estate planners encouraging clients to have these types of family conferences. You can have either your lawyer there, or your investment advisor there, or other third parties who can help diffuse tension and explain the plan.

The client just thinks, “When I die, then let them worry about it.” But they’re not there to witness the aftermath, which is often ugly, expensive and emotional.

WG: A lot of times it’s in the advisor’s best interest to bring families together. It allows the advisor to meet the family [members] and build bridges with the next generation. When that happens, very often things tend to go a lot smoother once death occurs.

The experts

Natalia Angelini,

associate, Hull & Hull LLP, Toronto

Wilmot George,

vice-president, tax, retirement and estate planning, CI Investments, Toronto

Michael Bellamy,

wealth and estate planning specialist, Canaccord Genuity Wealth & Estate Planning Services, Toronto

Multiple trusts

WG: It’s very interesting how the qualified disability trust selection and the preferred beneficiary election can actually work together. The CRA has recently indicated that it is indeed possible, where a QDT election is claimed, that the same trust can have the preferred beneficiary election claim as well. And the CRA has also indicated that, where you have multiple trusts for the same beneficiary, multiple trusts can claim the preferred beneficiary election.

NA: Manitoba does not have an Accumulations Act, so I expect the trusts can accumulate income for as long as they want without negative tax consequences. WG: It might be possible to, in some way, have just one trust as opposed to four. A testamentary trust is a trust created as a consequence of one’s death, and typically any contributions outside of that could compromise the testamentary status.

In this case, all four trusts are trusts that are going to be set up as a consequence of death. It might be possible to have the grandparents talk about having their inheritances flow through to one trust established on the death of the first, and then that trust presumably would maintain its status as a testamentary trust and, presumably, have access to QDT designation.

MB: That’s kind of what I was trying to get at with at least two of the grandparents combining theirs, especially with the insurance. Shane’s father has the insurance proceeds going to the mom or vice versa, or whoever passes away first. Earmarking that would at least eliminate it from four trusts down to two. Then, see if it makes sense to create one trust.

The logistics are a lot easier with one trust. Potentially, with four trusts, you could have four people looking after the money. With one trust, it’s easier for Aidan to communicate with one or two advisor teams, depending on who’s running the money.

WG: There was a very technical CRA interpretation a few years ago where they looked at a similar case. They said, where you have an established testamentary trust and you have subsequent contributions to that trust as a result of additional deaths of a contributor, those subsequent contributions in and of themselves would not necessarily compromise the testamentary trust status. There seems to be a window of opportunity to allow for it, but there’s a lot of debate around that point.

The benefits of one trust are the potential for more taxable income in the QDT trust, but also, very simply, just the administration costs and energy. As opposed to running four trusts, you’re running one trust. It might keep things cleaner and simpler.

Investments

WG: On the investments, of course, you want to look at both short-term and long-term needs. The settlors of these trusts may want to consider giving the trustee full discretion and authority to choose investments they think are suitable for a particular period. Where there is an immediate income need, income-generating investments can allow or provide income to meet that short-term need—income that can be taxed at graduated rates through the QDT, or through a preferred beneficiary election where the money is taxed in Aidan’s hands.

For longer-term needs, maybe you can look at an investment that doesn’t necessarily trigger a lot of taxation up front. Maybe corporate-class funds are a solution, whereby they tend to pay less in the way of taxable distributions upfront and are generally looked at for capital appreciation over time. Of course, you’ve got to consider all needs of the beneficiary in determining whether that investment solution makes sense.

Who becomes trustee?

NA: It helps to have the same trustee because we have different trusts. What we don’t know is if any one of these parents has other wills or other instruments. If they have multiple wills, let’s say, it would be helpful to have the same trustee named.

WG: You’re bang on. There are reasons to have the same trustee across all trusts. Number one, let’s not forget that you can only have one QDT. So you need to co-ordinate to make sure there’s only one claim for the QDT, or one election for the QDT being made. The other thing is claiming the preferred beneficiary election. We’re talking about the beneficiary’s tax, graduated tax brackets and rates. Regardless of the number of trusts you have, you want one quarterback who’s going to have a good handle on how much income this beneficiary is receiving, so that you can manage the income appropriately.

MB: That goes back to the investments as well. Obviously, it would be helpful if you have one quarterback looking at which trusts are generating income versus other avenues.

NA: One of his parents or both of his parents would make sense as trustee, because, if it’s one of the grandparents, you’ve got an issue if they may not be around to be the decision maker.

Registered disability savings plan

WG: Aidan is eligible for the disability tax credit, so Aidan is also going to be eligible for the RDSP. So maybe what the family does is they say, “We don’t need four trusts,” or “Maybe what we can do is one or more of us grandparents will contribute to an RDSP for Aidan.”

You can put the $200,000 into this RDSP, and in doing so you have the potential to track some grants and some bonds. The RDSP would also be effective in preserving social assistance benefits Aidan might be receiving. Manitoba has exempted the RDSP as an asset, and exempted withdrawals from the RDSP as income for purposes of social assistance benefit.

MB: The more co-ordination there is within the family for Aidan, the better it is down the road. It helps reduce costs and minimize stress for the survivor going forward.

the disability tax credit

Qualifying for the Disability Tax Credit (DTC) opens several options to disabled clients, including the use of a Qualified Disability Trust and an RDSP. To qualify, a person must fill out Form T2201 and have CRA approve it. Within the form, a medical practitioner must certify that the taxpayer has “a severe and prolonged impairment” and describe its effects. The taxpayer must tell CRA immediately if the medical condition improves.

Answering yes to the following questions would help a client qualify for the DTC:

• Has your impairment in physical or mental functions lasted, or is it expected to last, for a continuous period of at least 12 months?
• Do the effects of your impairment cause you to be markedly restricted all the time, or at least 90% of the time, in one or more of the basic activities of daily living, even with appropriate therapy, medication and devices?
• Do you receive life-sustaining therapy to support a vital function at least three times a week?