Jumping off the dock in the noonday sun, paddling a canoe in the late evening alongside the loons and roasting marshmallows on the bonfire late at night: the beloved cottage is a magical place for many Canadian families.
Indeed, in many parts of the country, real estate values of cottages, cabins and other waterfront recreational properties have risen at least as dramatically as city residences.
This is just one reason to pay attention now to the future of the cottage. Succession planning is a critical component of overall estate planning, and intentions for the cottage need to be aligned with retirement income and other investments. There are also a number of unique legal requirements that must be considered. When it comes to this type of planning, clarity of intent by all parties makes the process flow smoothly. Seeking expert advice is almost always essential.
Start with the end in mind
Adult children may feel awkward broaching this subject with their parents, but many parents actually find it a relief to have children take the initiative. Often the conversation raises the most fundamental of questions that will impact the estate plan: Do their children and heirs actually want the cottage? And if so, how will the parents effect the transition to these new owners?
When it comes to cottage succession planning, advise clients to start at the end and work back to a solution. In other words, what do clients want to accomplish with their estate overall, who would they like to benefit from it and what role does the cottage or cabin play in this context?
The cottage is different from a principal residence: for many, it’s part of their soul and holds many cherished memories. Much more than any other single investment, the cottage is often a part of who they are. When dealing with this emotionally laden real estate, encourage clients to cherish the memories, but try and set aside the emotion. Sentiment doesn’t have to translate into stress when the family is making these decisions.
Knowledge vs. assumption
With impartiality, experts can mitigate assumptions and create a clear understanding of how best to meet the needs of all parties.
Many parents deal with the cottage in their will without having a discussion, and without knowing what scenario will work best for all. Equally often, their adult children assume it’s easier to deal with the cottage after the reading of the will than to take the risk of upsetting parents by divulging that they have other priorities or more pressing financial commitments.
There’s also a related factor: sometimes spouses who didn’t grow up with a cottage just don’t understand its attraction. They only see the traffic jams getting to and from the area, blackflies and mosquitoes. Also, most parents want to treat all their children fairly in dividing up their estate in their will, including the family cottage. They don’t always know or consider which of their children has done better financially and who can realistically afford the required costs.
What happens if there are six children who will share the cottage rather than only two? What happens if some of the children live in California or Hong Kong and rarely use the cottage in Canada? Advisors should help clients understand that treating children fairly does not necessarily translate into treating them equally.
Some parents are justifiably concerned about their children’s lack of experience managing investments, but are reluctant to say so. Others may have concerns about their children’s ability to agree on the need for and payment of big-ticket items such as a new roof or the financial realities of carrying a cottage or cabin for 12 months of the year – not just for July and August.
No matter what the issue, knowledge and expertise trump assumptions when planning for a cottage succession.
The family meeting
Clients will benefit from a family meeting where parents, their adult children and any others with an interest in the cottage discuss desires, intentions, timeframes and finances.
While it may feel awkward to initiate a conversation about something that may not take place until the parents are gone, when adult children speak up, with positive motivation and sound advice, parents are often more than grateful. To get the thinking started, adult children would be wise to consider what tangible help they can offer now towards the cottage, such as upkeep or insurance.
Key areas an advisor should touch upon concerning a family discussion scenario are:
- Which family members are interested in the cottage?
- Can family members afford to acquire and maintain the cottage? If not, are there ways and means to assist them?
- When is the most appropriate time to pass on the cottage to the next generation?
- Is it possible to maintain control and still be assured the cottage is being transferred according to parents’ wishes?
- What are the tax implications: capital gains, land transfer tax, probate fees?
Better early than too late
As with other assets, the transfer of the cottage is happening much later than it used to. People are generally living much healthier and longer lives, and many of us stand an excellent chance of living well into our 80s or even 90s.
Health scares are a greater probability, and make a timely discussion on cottage succession more important than ever. For example, a parent or even an adult child could be diagnosed with Alzheimer’s disease or another related dementia, and the opportunity to effectively plan may be lost.
In this eventuality, the most recent will created while of sound mind is in effect and can’t be changed. The lesson here is that it’s essential to have a will reviewed every three to five years to ensure the assets are distributed as desired and intended.
Start the discussion
Deciding how, when or if to pass on the family cottage or cabin can be a nice problem to have. And adult children are talking more about stepping up – to take some of the planning burden from their parents, to clear the air or to contribute financially now, based on their future priorities.
With timely discussion and advice, advisors can help parents, adult children and the entire family unit find a realistic approach that fulfils the needs of all members, creating the opportunity for cherished memories for generations.
Strategies for passing on the family cottage or cabin can include the following:
A number of Canadians gift the cottage during their lifetime. The advantages of this include no probate fees. In addition, future capital gains accrue to the recipient after the transfer. But timing is important, as gifting will trigger early income tax. And more importantly, it means giving up control.
An alternative is to retain a life interest in the cottage after gifting by way of a formal legal contract. Advantages of this strategy include retaining access to the cottage and a say in who uses it. On the downside, capital gains are triggered and must be paid, and there’s also exposure to any claims by creditors of the new owners.
Selling the cottage to family members
Advantages include an agreed-upon price, parents receiving cash, and no probate fees. However, capital gains must still be paid on the cottage’s fair market value.
Transfer title into joint tenancy
In this situation, parents retain the right to use the cottage while avoiding probate fees. On the downside, capital gains are triggered on the portion transferred, there are fees associated with the transfer, and the cottage could become a target for creditors of the new co-owners.
Setting up trusts
Parents can set up a trust to manage the cottage in their will or they can set up a trust for the cottage during their lifetime. This way, while adult children can’t sell the cottage, they benefit from it.