Passing it on

FORUM Magazine


Passing it On

The government’s recent introduction of the registered disability savings plan and the upcoming tax-free savings account adds two more programs to be considered when helping clients plan the distribution of their estates. Jamie Golombek provides an overview of the two plans and what happens upon the death of a plan holder in each

While much has been written about the new registered disability savings plans (RDSPs) and the upcoming tax-free savings accounts (TFSAs), very little attention has been paid to date on what happens to these plans upon death and the possible estate planning opportunities surrounding them.

Before delving into this area, let’s begin with a quick review of each tax-driven savings program.

Registered Disability Savings Plans

RDSPs were proposed in the March 2007 federal budget and should be available for the first time in late 2008.

An RDSP is a registered investment plan under the Income Tax Act that allows the plan holder(s) to save money on behalf of a disabled person. It’s largely modeled after the registered education savings plan (RESP) and its associated grant and bond incentive programs, but there are some significant differences.

As with RESPs, money contributed to an RDSP is not tax deductible and government grants and bonds are deposited directly into the plan. Grants can be as much as 300 per cent of contributions and bonds may be obtained without making any contributions so long as an income test is satisfied.

Earnings and growth on all deposits accrue tax-deferred and the disabled beneficiary is the only person entitled to any payments, including the return of the plan holder’s contributions. He or she is the person taxed on those payments (other than original deposits, which come out tax free).

There are no restrictions placed on the use of RDSP payments so long as they are either received by the beneficiary or applied for his or her benefit.

Death of RDSP holder

The RDSP holder can be the disabled beneficiary or, more likely, the legal parent, guardian, tutor, curator or public department, agency or institution that is legally authorized to act on behalf of the disabled beneficiary.

If the RDSP holder dies, assuming he or she is not the beneficiary (discussed below), the plan can continue and a new holder can be named. The new holder must be someone who has the “rights as successor or assignee” of the original holder.

As practical matter, then, it would be wise for a parent/holder who is establishing an RDSP for a disabled child to include the other parent (where desirable) as a joint holder of the RDSP. In addition, it would be prudent to include wording in each parent’s will (as the case may be) that names a successor holder for the RDSP in the event of the death of the (surviving) parent.

Death of RDSP beneficiary

If the beneficiary dies, any grants and bonds in the 10 years prior to the date of death must be repaid to the government. This amount is called the “assistance holdback amount.” Note, however, that earnings and growth on the amount need not be repaid.

The contributions to the RDSP will be paid out to the disabled beneficiary’s estate tax free and the remaining income, growth, grants and bonds will be taxable when paid out to the beneficiary’s estate. The RDSP must be terminated by the end of the calendar year following the year of the beneficiary’s death.

Tax-Free Savings Accounts

Undoubtedly, the biggest treat for investors in this year’s federal budget was the introduction of a new savings vehicle that will allow Canadians to save money, not just for retirement but for any purpose, on a completely tax-exempt basis.

Starting next year (2009), Canadians will be able to contribute to a tax-free savings account (TFSA). This new account was likely introduced to allow the Conservatives to at least partially address their 2006 pre-election promise to eliminate the capital gains tax when the proceeds are reinvested.

According to the government, the TFSA is a “flexible, registered general-purpose account that will allow Canadians to earn tax-free investment income.”

The amount you can contribute to a TFSA will be based on your “TFSA contribution room.” Starting in 2009, everyone who is at least 18 years old will begin to accumulate $5,000 of TFSA contribution room. This TFSA contribution room will be cumulative and will be carried forward indefinitely to future years.

Perhaps the most interesting twist in these rules is that, unlike the RRSP system, any amounts withdrawn from your TFSA in a particular year will be automatically added to your TFSA contribution room for the following year, allowing individuals who withdraw TFSA funds to recontribute an equivalent amount in a future year.

Unlike RRSPs, but similar to RESPs and RDSPs, contributions to a TFSA are meant to come from after-tax funds (hence “tax prepaid”) and therefore will not be tax deductible from income. The big advantage is that any income and gains on investments held within a TFSA won’t be taxed either while inside the TFSA or upon ultimate withdrawal. This provides great flexibility when it comes to estate planning.

Death of TFSA holder

The fair market value of the TFSA on the date of death will be received by the estate completely tax free. If the TFSA assets are transferred to a beneficiary under the will, they will still be received by the estate beneficiary tax free, but any income or gains accruing after the date of the TFSA holder’s death will be taxable.

Individuals will be able to name a surviving spouse or partner as a “successor account holder,” in which case the TFSA will continue to be tax exempt. Alternatively, the assets of a deceased individual’s TFSA can be transferred to a surviving spouse or partner’s TFSA without affecting the surviving spouse or partner’s own existing TFSA contribution room.

As with RDSPs, it may be prudent to include TFSAs in a listing of estate assets to ensure that you take them into consideration when planning the ultimate distribution of your estate via your will.