Canada does not have an estate tax. However, capital gains and income taxes are generally triggered by death.

An executor must file the deceased’s final income tax return for the year in which they died and pay any tax owed up until the date of death (including taxes on any deemed disposition of assets, see below). This final return is called a “terminal return”.

An executor may also need to file an estate income tax return for each taxation year of administration to report income earned and capital gains and capital losses realized while the deceased’s affairs are being administered (i.e., until assets are distributed to beneficiaries).

Prior to distributing assets, the executor may request that the Canada Revenue Agency (CRA) issue a “clearance certificate”, which certifies that all taxes of the deceased for have been paid.

In addition, some provinces and territories also have additional taxes in the form of probate fees, sometimes referred to as Estate Administration Tax, Probate Tax, or Probate Charges.

Is a clearance certificate required from CRA?

It is important that the executor pays any final tax owed prior to distributing anything from the estate. An executor can be held personally liable for any outstanding taxes of the deceased if a clearance certificate is not obtained prior to distribution of assets. Accordingly, it is generally prudent to seek a clearance certificate from the CRA (though it should be noted that processing times for the clearance certificate can be quite long).

In some cases, executors may make interim distributions when:

• The assets are sufficient to do so;
• There is enough certainty with respect to the potential tax; and
• The executor has obtained indemnities or releases from the beneficiaries.

What is a “deemed disposition” and why does it matter?

When someone dies, CRA treats any capital property owned at the time of death as though they were sold on the day the person died. For example, if the deceased owns stock, it would be presumed for income tax purposes that the stock was sold the day the person died. Any accrued gains (or losses) would be taxed accordingly.

Deemed dispositions of property may trigger additional capital gains tax to be included in the terminal tax return.

What is a Qualifying Spousal or Common-Law Partner Trust (QST)?

The creation of a QST allows the payment of capital gains tax to be deferred until both spouses or common-law partners are deceased.

A QST allows spouses to provide for the surviving spouse or common-law partner during their lifetime and then have any remaining assets transfer to their own chosen beneficiaries (e.g., children from a first marriage). The surviving spouse or common-law partner must be entitled to the QST’s annual income and can (but need not) be able to access the assets of the QST during their lifetime.

Detailed estate taxation planning – including setting up a QST should be undertaken with the assistance of a licensed professional such as a TEP.

How is an estate taxed?

A deceased’s estate is treated as a trust for tax purposes and a T3 trust tax return must be filed to report any taxable income earned during estate administration.

For the first 36 months from the date of death, the estate may qualify as a graduated rate estate (GRE). Qualification as a GRE may have significant tax advantages, including the ability to access graduated tax rates, certain exemptions, special tax rules regarding losses realized in the first tax year and flexible charitable donation claims.

What happens when property is distributed from an estate?

A deceased’s assets can be given directly to a beneficiary or as discussed below, put into a trust for their benefit.

Generally speaking, assets can be given to a beneficiary without triggering any further capital gains tax on any increases in value. Instead, the beneficiary will pay tax when they actually dispose (or are deemed to dispose) of the property.

What is a testamentary trust, and how is it taxed?

Generally, a testamentary trust is any trust that arises on death due to the operation of a Will.

A testamentary trust creates a legal relationship between the deceased person, the trustee and the beneficiaries. The trustee is often the executor, but can be a separate person named in the Will. The beneficiaries are the family members or other persons specified in the Will. The trustee is responsible for payments to the beneficiaries based on the terms specified in the Will. Beneficiaries can have a fixed interest or discretion may be given to the trustee to make allocations amongst the beneficiaries.

Since 2016 all ongoing trusts created under a Will (except qualified disability trusts) are subject to tax at the highest marginal tax rate for individuals. If the trust’s income is paid out to a beneficiary it will be taxed in their hands at their rates which may be lower than the trust’s tax rate. The trust must file an income tax return for each calendar year reporting its income earned and prepare a T3 reporting slip for any allocations made to its beneficiaries.

Why use individual trusts for my children?

If gifts are made to an adult child using a trust instead of being made directly, the adult child may be able to split the income of the trust with their own children. Depending on the number of grandchildren and their age, and the amount of income being produced in the trust, this could offer significant tax savings. For more information on the benefits of individual trusts, speak with a TEP.

Does this mean beneficiaries pay no tax for inheritances?

In most cases, inheritances are received after-tax and the beneficiary acquires the property at a cost equal to the deceased’s deemed disposition value. For instance, if a beneficiary is left a house, they will pay no tax on receiving that property. Once the house is in their hands, they will be liable for standard taxes such as property tax and income tax if the house is sold for a profit and was not their principal residence.

Note that some jurisdictions outside Canada tax beneficiaries by way of an inheritance tax. As such, it is possible that a foreign beneficiary will be subject an inheritance tax while the Canadian estate is subject to capital gains tax on the deemed disposition of the deceased’s assets. A TEP should be consulted for advice on how different tax systems will impact estate planning for foreign beneficiaries.

What are Probate Fees / Estate Administration Tax?

Probate fees (known in some provinces as probate tax, probate charges, or estate administration tax) are fees or taxes charged in relation to obtaining a grant of probate (or Certificate of Appointment in Ontario). The name of the fee/tax and amount of tax charged varies from province to province and territory to territory.

Are there any exemptions from Probate Fees?

The list of items and estates eligible for exclusion from probate fees varies from province to province. Estate planning can be undertaken in certain provinces to minimize probate fees through the use of Multiple Wills. For more information on probate exclusions and rates, please refer to the “What is Probate?” and “Probate by Province” sections of this website.

For further information or assistance in administering an estate, please consult a TEP.