Estate Planning and the Family Cottage

Cottage Life

A family asset that everyone enjoys

Every summer, thousands of Canadians pack their bags and their families into the car on Friday afternoon, and leave their homes behind. Their destination: the family cottage.

For many, the family cottage is like a second home. It's a chance to enjoy some down time from their fast-paced city life, relax in the beautiful outdoors, and spend invaluable time with friends and family. It's an asset that generations, both younger and older, can enjoy. In short, it's a reward for everyone's hard work.

Keeping it in the family

For taxation purposes, a cottage is considered a capital asset. As such, it is treated like all other capital assets. When the owner dies, it can be automatically rolled over to his/her spouse, tax-free. However, upon the death of the surviving spouse, it's deemed to be disposed of at fair market value. The result? Probably a hefty tax bill. And if the heirs don't have the cash on hand to pay those taxes, chances are they'll have to sell the cottage to do so. Consider the following example:

Mike and Kathy are both 60 years old. Thirty years ago, they bought their cottage for $40,000. It's now worth $180,000. If anything were to befall both Mike and Kathy, their heirs would be faced with an unpleasant decision: sell the cottage or come up with approximately $35,000 in taxes. Luckily, there is another option.

By purchasing a joint-last-to-die insurance policy, Mike and Kathy can prepare for the eventual tax bill. On the death of the second spouse, the proceeds from the insurance policy could be used to pay the taxes owing on the cottage. The result? Their heirs would be able to continue enjoying that cottage for years to come.

As you can see, for the cost of an affordable monthly premium, Mike and Kathy can ensure that their cottage remains in the family. Who should pay those premiums? Obviously, one option is Mike and Kathy. However, another option is their heirs. After all, considering that their heirs are the ones who ultimately stand to benefit, they probably wouldn't be averse to paying the monthly premium.

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Preserving The Family Cottage For Future Generations

It's cottage season. Do you have a plan to preserve this treasured family asset?

Every summer, many Canadians pack up their belongings and head to the cottage. For some this is a family ritual that has been passed down from several generations. To ensure that your treasured cottage is safeguarded for future heirs, it is essential to have an estate planning strategy in place. If a proper estate planning strategy is not put in place, your estate could face a large tax bill, possibly forcing the sale of the property to pay the tax liabilities.

Under current tax laws, a cottage that is not used as a principal residence by the owner is considered a capital asset. Therefore, in the year the cottage is sold or transferred to someone other than your spouse, or on the death of the last spouse, it is subject to capital gains tax, provided the property has increased in value.

Assuming your cottage is not your principal residence and that upon your death there is no spouse to transfer the property to, would your heirs be able to afford to pay the taxes due on the property?

For example, if the property increased by $200,000 from its original purchase price, 50% of the capital gain, or $100,000, is subject to income tax. Therefore, simply leaving your cottage to your heirs could trigger a capital gain and produce a sizeable tax bill. If your beneficiaries inherited your cottage today, do you know how much tax they would have to pay?

Insurance may be an effective solution to fund the tax liability upon transfer of the cottage to your heirs. If insurance is an option for you to consider, ask a CIBC Wood Gundy Investment Advisor about purchasing a joint last to die insurance policy. When the second spouse passes away, your heirs can use the death benefit from the policy to pay any taxes owing on the cottage and you can be assured that your family will continue to enjoy the cottage for generations to come.