Canada:
Choice From Spouse Rollover On Death: Toronto Tax Lawyer Guide
August 20, 2021
Red Meat & Samulovitch PC
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Background: The death of a taxpayer – choice from the spouse rollover upon death
If a Canadian tax resident dies, the Income Tax Act assumes that they sold all of their capital at fair market value immediately prior to their death. As a result, all previously unrealized capital gains and losses of the deceased taxpayer are realized. Any person who then inherits property from the deceased taxpayer is deemed to have been acquired at market value immediately prior to the death of the taxpayer.
The executor of the deceased taxpayer’s will must file a definitive T1 personal tax return on behalf of the deceased taxpayer. The tax period covered by the final return begins on January 1st of the calendar year in which the taxpayer died and ends on the day of the taxpayer’s death. Since the presumed sale of the deceased taxpayer’s property occurs immediately prior to death, the income or loss from the presumed sale will be recorded on the deceased taxpayer’s final T1 tax return.
The taxpayer’s estate must also file income tax returns for the duration of its existence and tax the income generated. The first day after the taxpayer’s death is the first day of the first tax year of the estate. Some estates that do not generate income or distribute property to their beneficiaries may not need to file tax returns.
Under Canadian income tax law, an inheritance is not taxable income. So inheritance recipients do not pay Canadian income tax on assets they inherit. Any tax liability arises from the estate of the deceased taxpayer.
The spouse rollover in the event of death – choice from the spouse rollover in the event of death
If a person receives property from his / her spouse as a result of the death of the spouse, other rules apply by default which prevent any gain or loss accrued on that property from being realized. Rather than selling the property at market value, it is assumed that the deceased taxpayer sold that property to the deceased’s spouse at his own expense. This means that the deceased taxpayer will not realize any gains or losses in relation to that property. The surviving spouse is deemed to have acquired the property they inherit at the cost of the deceased spouse’s property. As such, immediately upon receipt of the property, the surviving spouse will have the same unrealized gains and losses as the deceased taxpayer immediately prior to his death. A transaction with this type of deferred tax treatment is commonly referred to as a “rollover” and in this case is specifically referred to as a spouse rollover. Note that any spouse transfer is possible, not just due to death.
This spouse rollover treatment is usually beneficial when the deceased spouse had unrealized capital gains on the property transferred. This is because the rollover postpones the payment of income tax on the capital gain until a later date, that is, the actual sale of the property or the death of the surviving spouse. Unless the property depreciates in value at some point in the future, the property will eventually be sold or otherwise disposed of, resulting in the realization and taxation of the profit that existed at the time of the deceased spouse’s death. However, if the tax liability is postponed further into the future, the taxpayer concerned can invest and get back the amount that would otherwise be needed to pay the tax. This type of tax break can be significant if the unrealized gain is large or if the property is not sold by the surviving spouse for many years. Tax deferral is a fundamental and important tax planning technique.
Choice from rollover – Choice from spouse rollover upon death
Spouse transfer treatment for assets received by a surviving spouse as a result of the death of their spouse is automatic. However, it is possible to opt out of rollover treatment if the executor of the deceased spouse files an appropriate election with the deceased spouse’s final return. This choice can determine on property by property which property should or should not receive transitional spousal treatment. The choice cannot be partially applied to a single object. The decision to submit the election is in the control of the executor of the deceased taxpayer’s will. The executor does not need the consent of the surviving spouse to carry out the election and the surviving spouse cannot control the election in any other way.
Property to which the election is applied receives the standard treatment described in the first section of this article (e.g., deemed to be sold at fair value immediately before death). Despite the potential deferral benefits of rollover treatment, sometimes it is better for the deceased taxpayer’s estate to consult an experienced Canadian tax attorney to realize a capital gain or loss and for the executor to submit the election. An example is if the deceased had property that is eligible for the lifetime capital gains exemption [IT1] , in this case it might make sense to make the election in such a way as to make use of the exemption. Another possible example is a situation where the deceased spouse has significant unused capital losses from previous tax years. This would allow some profits to be realized without additional taxes, which would give the surviving spouse a higher cost base for the property received and use up the otherwise useless capital losses. A crystallization of capital losses by choosing from the spouse rollover can also make sense if there are capital gains in previous years that can be offset by reducing the crystallized capital losses.
Pro tax tips – choice from spouse rollover in the event of death
With proper estate planning, including weighing up whether to choose from the transfer of spouse in the event of death, a significantly better tax result can often be achieved. It is imperative to consult a skilled Canadian tax attorney regarding estate planning and administration of a deceased taxpayer’s estate in order to achieve the best possible tax result.
The content of this article is intended to provide general guidance on the subject. Expert advice should be sought regarding your specific circumstances.
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