Dying for savings

Astute advisors often promote planning that can help minimize taxes at the time of death. But there are a number of filing and election strategies, even for the unprepared clients, that can result in considerable tax savings to their estates.

For advisors assisting clients who have recently suffered a death in the family, here are a few post-mortem tax tips to consider.

There are a number of separate tax returns that can be filed for the deceased’s terminal year. Using these multiple returns can result in significant savings as a result of access to more than one set of low marginal tax rates, and because personal tax credits can be claimed in each of the returns.

The terminal return generally includes income realized in the year until the date of death. However, income amounts that are due but haven’t been received at the date of death may be included in a separate return, known as a “rights and things” return.

These amounts may include dividends declared but not paid; unclipped, matured bond coupons; retiring allowances not received; and salaries, wages, commissions, and accrued vacation pay that are owing but unpaid before death. Work-inprogress is also included for some professionals.

Contributions cannot be made to a deceased’s RRSP after his or her death. However, if he or she had any unused RRSP contribution room after taking into account contributions made before death, the personal representative can contribute to a spousal plan on the deceased’s behalf. If made within 60 days after the end of the year of death, the contribution can be deducted in the terminal return.

There may be significant medical expenses incurred in the final stages of life and many of these costs will be paid after death. To provide relief, any unclaimed medical expenses of the deceased paid within any 24-month period that includes the date of death, will be eligible for the medical expense credit for the year of death.

Ordinarily, the amount of donations eligible for tax credit are limited to 75% of net income in the year. However, donations made in the year of death and the immediately preceding years are not subject to this limitation. Further, donation bequests in a will are deemed to be made in the year of death and not by the estate. If the deceased has significant net income in the year of death as a result of the deemed disposition rules, these donation credits can be particularly beneficial.

Unexercised employer stock options owned at the time of death result in a deemed employment benefit in the terminal year equal to the difference between its value and the amount paid to acquire the option (the 50% stock option deduction may apply). However, if the share value has declined when the option is exercised or expires after death, the benefit included in the terminal return has effectively been overstated. If the option is exercised within the first year of the estate, an election can be made to carry back this loss to the deceased’s terminal return.

Similarly, the estate created on death may incur capital losses or terminal losses from the sale of property if the value of that property declined after the date of death. If these losses arise in the first year of the estate, the personal representative may elect to treat all or a portion of them as capital losses or terminal losses for the year of death.

Assets transferred to a spouse, or spousal trust, as a result of death are exempt from fair-market value deemed disposition rules. But, in some cases, it may be advantageous to have some of the accrued gains included in the deceased’s terminal return—for example, if the deceased has any available capital gains exemption or unused capital losses that would otherwise expire on death. To trigger some of these gains, the deceased’s personal representative can elect out of the automatic cost base transfer on an assetby- asset basis. While no additional tax results from this, the cost base of the assets to the spouse is increased by the gains realized.

Gena Katz, FCA, CFP, an executive director with Ernst & Young’s National Tax Practice in Toronto. Her column appears monthly in Advisor’s Edge.