The Estate Donation Loop
It is one year after the new estate donation rules were introduced and the practical implementations are beginning to emerge. With the post-2016 rules, a twist arises when the residue of the estate is split between charity and individual beneficiaries. This scenario creates a gift that keeps giving.
A gift by will, which is a type of estate donation, is now a gift of the estate. Legally the gift occurs after death through one or more distributions. In order to complete the gift the property must be transferred to a registered charity. If received in the first 36 months after death (the Graduated rate Estate or GRE), the tax receipt issued by the charity may be claimed against 100% of net income on the final two lifetime returns, on the estate return in the year of the gift against up to 75% of net income and on prior estate returns. A recent update allows transfer to be made in the two years following the GRE. These changes extend the claim period to the year of estate that the gift is made and as well as 36-months of the GRE and final two lifetime returns. My fellow blogger Brittany Sud recently summarized the rules.
When the estate residue is divided between charity and family, claiming the estate donation can create additional funds that are available for distribution to all residual beneficiaries.
Here’s an example. Let’s assume a will names two equal residual beneficiaries: one charity and one family member. The initial amount of the residue is $1 million, which dictates an estate donation to charity of $500,000 and a distribution to the family member of $500,000. If there is net tax savings from the donation the estate would receive additional funds that would be distributed to the two residual beneficiaries. Unlike the pre-2016 regime, a subsequent distribution to the charity is a donation and the donation produces another tax credit, which can produce a further distribution to the two residual beneficiaries. A loop is created generating diminishing benefits. One accountant I spoke to said he had a large estate that could reasonably produce six extra tax filings.
There are a number of caveats.
The estate and the final two lifetime returns require sufficient income and claim room to use the tax credits from the subsequent donations.
The estate requires the financial resources and goodwill of all parties to warrant repeat donations and filings of the lifetime and estate returns.
The executor needs to be efficient about filing returns and subsequent donations or the estate may run out of time to benefit.
This twist produces a benefit for beneficiaries, but the “loop” may prolong the estate administration process and clog the Canada Revenue Agency system.