While you’ll need to approach this topic with sensitivity, you can draw on your experience to help optimize the transfer of your clients’ assets. According to François Bernier, Director, Tax and Estate Planning, Wealth at Sun Life Financial, it’s important not to overlook the government benefits for which the beneficiary may qualify. “A disabled person with a severely limited capacity for employment will generally have access to benefits under the Social Solidarity Program, and in some cases, we might want to preserve access to those benefits,” he says. It’s also important to note that the concept of disability, for tax purposes, is framed by the federal government’s disability tax credit (DTC). “Certain basic criteria, such as functional restrictions, are used in the evaluation of disability,” he states.
Wealth transfer basics
“Leaving a principal residence or cash to your heirs does not have the same tax impact as leaving an RRSP, RRIF, LIRA or any other type of pension plan,” explains Bernier. In that case, the deceased is deemed to have disposed of all of his or her assets on the date of death for consideration equal to their fair market value. “That value could result in a huge tax bill for the estate,” he points out.
However, when the bequest is made to the spouse in a will, assets can be transferred with no tax implications. This is what’s known as a “rollover.” “Tax will then be deferred until the time the last surviving spouse leaves his or her assets to someone other than his or her spouse,” explains Bernier.
There are, however, some exceptions to this rule.
The first applies not only to a child with a disability, but also to any child under the age of 18. “Registered plans can be rolled over with no tax impact when it’s for the purpose of purchasing an annuity on behalf of a minor,” Bernier continues. The annuity will then be taxable to the child, but in all likelihood, it will be at a relatively low tax rate.
The second exception concerns a dependent child with a disability (or a dependent grandchild with a disability where, for example, a grandparent wishes to provide for a grandchild). In such a case, it’s possible to roll funds into an RRSP in the beneficiary’s name. “This has the effect of deferring subsequent taxation to the child.” The advantage of this solution lies in the absence of any sort of ceiling: there is no maximum on the amount that can be transferred tax-free into the child’s RRSP.
In addition to these two RRSP exceptions, there is also the registered disability savings plan (RDSP), which can be set up for a disabled child and used for a rollover of registered plan amounts. However, there is a lifetime contribution limit of $200,000.
When it comes to drafting their will, some parents may feel uncomfortable about leaving money to a disabled child through a rollover to either an RRSP or an RDSP. Generally they will want to provide for their child, but they want to be sure that a trusted individual of their own choosing will be in charge of managing the money. Unfortunately, it is not legally possible for parents to appoint a guardian for an adult child.
There is, however, another option to consider for facilitating the transfer of wealth to a child with a mental infirmity, and that is a lifetime benefit trust (LBT). With a lifetime benefit trust, accrued tax on the assets from a registered retirement plan or a pension plan can be deferred. Income Tax Act requirements state that a qualifying annuity must be purchased within the trust. “The beneficiary must have a mental infirmity and be the spouse or common-law partner, or dependent child or grandchild, of the deceased,” states Bernier. Let’s take a closer look at this type of trust, which is designed to protect vulnerable heirs.
Lifetime benefit trust: an option worth considering
For the parents of a child with a mental infirmity, having an LBT in place means that an unlimited amount from any of the registered plans mentioned earlier can be rolled over tax-free at death. And what’s more, parents can appoint one or more trustees of their choice in their will. This allows a certain degree of control over the amounts left to children with a mental infirmity.
Usually persons with a severely limited capacity for employment who are receiving Social Solidarity benefits can receive up to $219,000 from an estate with no impact to their eligibility under the program.
“So a recipient could be left a house, cash or an RRSP rollover without losing eligibility for benefits, as long as the value of the bequeathed assets is below the maximum allowed,” confirms Bernier. But what if the inheritance exceeds that threshold?
That’s where an LBT comes in. When assets are bequeathed for the benefit of a recipient under the Social Solidarity Program in a “discretionary” type trust (trust from which the beneficiary cannot demand an income), the assets in the trust are considered to be a separate patrimony from that of its beneficiary and are therefore not considered as belonging to the disabled person for the purpose of determining eligibility for Social Solidarity benefits.
An opportunity to go above and beyond
“It’s worth the effort to do an estate planning review with clients who have dependent children with a disability,” says Bernier. Some parents, however, may not feel comfortable discussing a child’s disability. In many cases, this is still a sensitive topic, even in today’s world. It may be necessary for you to have an established relationship of trust with the parents before they’ll be willing to talk about it. Here, briefly, are the three main points to keep in mind:
- The advisor is in a position to help optimize the eventual transfer of wealth to the children, with particular care in cases where a child has a physical or mental infirmity.
- Under certain conditions, an LBT can be used to leave an unlimited amount of money from a registered plan or a pension plan tax-free to a dependent child with a mental infirmity.
- A discretionary trust allows parents to appoint a person of their choice to manage the money left to their disabled child, something that is not possible with the other types of rollovers.
To learn more about SunLife and its products, contact a member of the Sun Life Financial insurance and wealth sales support team