Planning for Intergenerational Transfers of Real Property: Key Considerations

Few assets pose greater challenges to the estate planning practitioner than the family cottage or vacation property. Not only does the value of this asset often form a significant portion of a client’s net worth, it carries emotional significance for both the owner and family members. As a result, the intergenerational transfer of real property requires careful balancing of tax and legal considerations with a family’s unique interpersonal dynamics.

Overview of Tax Considerations

While a full review of the tax rules applicable to the transfer of real property is beyond the scope of this article, a basic outline is helpful when evaluating intergenerational transfers.

• Income tax. When a property owner makes an intergenerational inter vivos gift of real property, or transfers it to a trust other than an alter ego, joint partner, or spousal trust, they are deemed to dispose of the property at fair market value. The difference between that value and the property’s cost base is a capital gain, 50 per cent of which is included in the transferor’s income. A similar deemed disposition occurs on death if the owner intends an intergenerational testamentary gift and dies holding the property, with the resulting capital gain taxed in the estate. Most trusts also face a deemed disposition every 21 years.
  
  While the transferor may use the principal residence exemption (PRE) to shelter the gain if certain requirements are met, a family unit may designate only one property as its principal residence in a given year. As a result, many individuals prefer to reserve the PRE for their home. Since 2016 amendments to the Income Tax Act, applying the PRE to trust‑held properties is more limited and depends on meeting specified conditions.
  
  Practitioners should canvas the income tax consequences of any plan for real property, as well as how any tax payable will be funded, either during the client’s lifetime (requiring available cash) or on death (potentially through liquidation of other assets or insurance).
   
• Estate Administration Tax. Estate Administration Tax, or probate fees, are levied at 1.5% on the value in excess of $50,000 of estate assets governed by a will submitted for probate. Significant probate fees may be payable on real property held in a testator’s name.
  
  Strategies to avoid probate fees, such as inter vivos gifting or transfer to a trust, must be balanced against the potential acceleration of capital gains tax.
   
• Land transfer tax (LTT). Transfers of real property without consideration may avoid LTT, but the assumption of a mortgage or debt can create consideration. Determining whether beneficial ownership has changed remains central to this analysis.

Non-Tax Considerations

It is clear that the tax consequences of transferring – or, in the case of probate fees, not transferring – real property can be significant. However, tax considerations must be balanced with each family’s unique circumstances.

• Interpersonal relationships. This is, arguably, the most important consideration when advising on real property. Parents may envision their children happily co‑owning the cottage for years, but the children’s relationship may make such an outcome unlikely. Practitioners should encourage clients to be realistic. Gifting the cottage to all children by will, or establishing a trust with all children as trustees, may quickly lead to conflict. Conversely, parents who gift a cottage to fewer than all children, without adequate explanation or equalizing gifts, may inadvertently create further resentment.
  
  Clients should be encouraged to speak to their children before implementing any plan. Where more than one child is to receive a property, a co‑ownership agreement setting out matters such as usage and shared expenses may be an important part of the plan.
   
• Financial resources. The ownership of real property is expensive. Clients must consider how beneficiaries will pay ongoing costs, particularly if there is a disparity in financial circumstances. In addition, if the intention is to hold the property in a trust for more than 21 years, thought must be given to funding the tax liability that will arise from the deemed disposition.
  
  Practitioners may suggest setting aside additional funds in an inter vivos or testamentary trust that holds the property, or providing a cash gift during lifetime or a legacy in the will to assist recipients with the associated expenses.
   
• Creditor claims. Clients should consider potential creditors of intended beneficiaries before undertaking planning involving real property. On relationship breakdown, a beneficiary’s spouse may assert statutory or trust‑based claims against the property. Third‑party creditors may also be relevant where a beneficiary has existing liabilities, works in a high‑risk profession, or faces potential future claims.
  
  While holding property in a properly structured trust may offer some protection, transfers made with the intent to defeat creditors may be vulnerable under the Fraudulent Conveyances Act. Practitioners should therefore canvass a client’s creditor exposure before determining whether property should be transferred outright or held in trust.

Effective planning for the transfer of real property requires balancing income‑tax considerations with the practical realities of family dynamics. By considering both factors, practitioners can guide clients through the options available to preserve treasured family properties.

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