3 key discussion points when considering a family cottage (or vacation home) in your estate plan

3 key discussion points when considering a family cottage (or vacation home) in your estate plan

Side note: The picture above has nothing to do with the article below but I’ve come to realize that any pictures related to ‘financial planning’ are boring and redundant… maybe I’m just not creative enough. So, I’ve decided to post pictures of places I’ve been. Want to learn more about the photo above? Read the article and find out at the bottom! I mean you could scroll right to the bottom but… come on…

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*Although a cottage is being used as an example, this article is applicable to any vacation home*

Ahhh, the family cottage and the memories that come with it.

Roasting marshmallows over a warm fire, riding the jet ski with the sole intention of tossing your passenger overboard, and late night laughter, telling stories with your parents and siblings. The family cottage is a sacred, nostalgic place.

Your parents want the cottage to stay in the family when they pass on and so do you.

But what does that look like? 

Having ‘that’ conversation is important:

  1. How will the tax be paid?
  2. Do your siblings feel the same way?
  3. Can you and your siblings afford it?

How will the tax be paid?

Wait, what tax?

Capital gains tax, of course!

When both parents pass away, and the children inherit the cottage, the government views the cottage as being sold at current market value or, what’s called a deemed disposition. Guess what that triggers? Indeed, tax! Capital gains tax to be exact.

Example

Your parents (both 60) own a cottage that has a market value of $700,000 and was purchased for $150,000. Assuming the cottage appreciates at 3% per year, at age 90 the cottage will be worth $1,700,000.

Your parents are curious about the best way to leave the cottage to you and your siblings, Joe and Monica.

  1. Should they pass it on now and trigger the capital gains tax at a lower market value?
  2. Should they set aside cash in a non-registered account that will be used to cover the tax when they die?
  3. Should they buy a life insurance policy that will be used to cover the tax when they die?

*Assumptions: Cottage annual appreciation of 3%, non-registered annual investment return of 6%, no sells in the non-registered account until death, and taxed at highest tax bracket. To compare saving in a non-registered account to life insurance, deposits are made over a 10 year period.*

One way your parents could defer future capital gains tax is to give the cottage to you and your siblings today. To do so, your parents will have to pay $147,180 today but any future growth will be deferred into the hands of you and your siblings.

If your parents are averse to this there are other options. They could make an annual investment of $12,350 for 10 years into a portfolio that is dedicated to paying the capital gains tax of the cottage in the event of their death. 

Alternatively, your parents could purchase a life insurance policy that would require annual deposits of $11,980 for 10 years.

Not only is using life insurance the least expensive option, but it also provides a guaranteed death benefit at any point in time versus an investment portfolio that has variables such as time and an assumed rate of return. 

Do your siblings feel the same way?

Your parents are hopeful to keep the cottage in the family after they pass. You and Monica have no intention of selling the cottage, but Joe has no interest in co-owning the cottage. He lives out of province and does not get any use out of it. 

Rather than leaving you and Monica to buy out Joe your parents could equalize the estate by leaving a portion of their investment portfolio or their house to Joe.

Another option is for your parents to purchase a permanent life insurance policy with a death benefit equal to yours and Monica’s portion of the cottage, leaving Joe as the beneficiary.

Can you and your siblings afford it?

What if the family cottage makes up the majority of your parents’ estate? If no plan is in place could you and Monica not only afford the capital gains tax but also afford to buy Joe out?

If you did buy joe out, could you and Monica afford to maintain the property? How will decisions be made about what to fix and when?

Whether you think your family is on the same page when it comes to the cottage or vacation home, sit down and talk it out. There are too many cases of parents trying to do the right thing by leaving the cottage or vacation home in equal parts to their children that only turns to hatred and lawsuits.

Did I miss something? Feel free to comment on this article or send me an email at david@stewartfinancial.ca.

— David Miklas

www.stewartfinancial.ca

www.insuranceanswered.ca

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Recently we visited California for my brothers wedding in San Francisco. Of course we had to make a whole trip of it! Part of our journey included Yosemite National Park and it did not disappoint. We stayed two nights and hiked the ‘Four Mile Trail’, which is actually closer to five miles. You end up on Glacier Point and the views are spectacular – looking down you can see Yosemite Valley and looking across you can see the infamous ‘Half Dome’. As we left Yosemite and drove through the mountains we saw some of the carnage that the fires left behind. A sad exit, seeing long stretches of black, dead, trees – a true eye opener to the severity of these fires.

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