Summer haven is not a tax haven
Your cottage, or any other vacation property for that matter, can be an important part of your family life — and you might want to leave it to your family.
But unless you’re passing assets to your spouse, when you die, you’re deemed to have disposed of all your capital assets at fair market value.
If your cottage has appreciated in value, there could be a significant capital gains liability that could force your heirs to sell the cottage.
These are some of the options you should consider to reduce the tax bite to your estate and your heirs:
• Principal residence exemption (PRE). You are able to make a principal residence exemption claim on either your city home or your vacation property as long as you meet the requirements.
If your vacation home increases in value more than your city home on a per year basis, the exemption might be better applied to that property.
However, if you have bought and sold several city homes over the same number of years that you have owned your vacation property and applied the PRE on those city homes, you will not be able to shelter the entire gain on your cottage.
• Preserving the adjusted cost base. Another option for minimizing the taxable capital gains is to ensure that all additions to the adjusted cost base (ACB) of the property are fully accounted for. The ACB is not increased by sweat equity, only out- of- pocket expenditures — so keep your receipts.
• Gifting during your lifetime. Instead of leaving property to your children through your will, you can choose to transfer some or all of it to them during your lifetime — through the outright gift of the property or by making one or more of your children joint owners (with or without you as a joint owner).
This option does have a downside because it may trigger an immediate capital gain and life insurance is not an option for paying this tax.
• Equalize your estate with insurance. One good way to cover capital gains and other estate debts — or to provide an equitable amount of money to your other children should you decide to leave your vacation home to just one child — is with permanent life insurance.
The death benefit is usually tax- free and can provide a ready source of cash that could prevent the forced sale of assets — including your cottage — to pay taxes.
It’s a good idea to discuss your cottage tax issues with your legal and financial professional advisors to ensure they coordinate with all the other aspects of your financial and estate plan.