Business Succession Planning: The process

A business often represents a lifetime of work and vision. Yet, many business owners wanting to exit ownership barely have a formal succession plan in place. Leaving business succession to chance could allow someone else to decide what happens to your business, and potentially at significant cost. Planning early also helps reduce the tax impact of ownership changes, as well as ensure a smooth and successful transition of the business to the new owner or owners. A successful plan will also help the overall value of your business today.

The Succession Planning Process
The process of planning and enacting a successful transition consists of several steps, each of which is equally important. These steps include:

Step 1 - Identify and Review Priorities
The first step of the process starts with identifying your priorities. Business owners should ask themselves, “What do I want for my future, my family, and my business?”

Step 2 - Identify a Buyer or Successor
Who will run the business when you are no longer doing so?

Step 3 - Develop a Succession Plan
Since a variety of expertise is needed, it is important that you work with an appropriate team of experts to help you develop your business succession plan.

Step 4 - Integrate with Personal Financial Planning
Ensure that your personal retirement and estate goals are integrated with your overall financial plan.

Step 5 - Monitor Plan Implementation
It is important to monitor and review your plan during the implementation period to ensure that you are on track in terms of timing and deliverables.
Finding the right approach to exiting your business will depend on your own expertise, the complexity of your personal financial situation and the time and desire you have to manage your transition. Whatever you do, don’t go it alone. It’s important to get the right team working for you. Working with our professionals from across the Scotiabank Group, we can help get you take the first step in developing a plan that is right for you.

Step 1 – Identify and Review Priorities

This step in developing your business succession plan is to identify and review your personal, family and business priorities. Business owners should ask themselves, “What do I want for my future, my family, and my business?” In doing so, you need to cover all the contingencies, not just retirement.

Personal / Family Considerations

• When to exit the business
• Post-succession involvement in business
• Family member interest and involvement in the business
• Retirement / post-succession income needs
• Wealth preservation / transfer
• Minimization of taxes
• Philanthropy
• Family harmony / equality / fairness

Business Considerations

• Retention of key employees and customers
• Shareholder agreement
• Ensuring business survival
• Minimization of taxes
• Minimization of disruptions

Step 2 – Identify a Buyer or Successor

In some cases, a combination of these options may turn out to be your best option. It’s important to seek professional advice to make sure you find the best solution for you, your family and your business.

Passing the Business to Family

Family members can be good choices for successors, but only if they have the desire, commitment and ability to manage the business successfully. Ownership and management are two different things. You may be able to handle both, but your family members may be better off retaining ownership only and leaving business management to others.

If you do select a family member (or members) as your successor, doing as much advance planning as possible will help your successor build the skills and knowledge he or she needs to take over the business. The process of grooming your successor will include things such as training; introduction to key customers and suppliers; and managing the transition so there is minimal disruption to the business.

Transferring Ownership Through a Management Buy-Out

If keeping your business in the family is not a suitable strategy, one alternative is to offer key management the opportunity to purchase all or part of the business. If there are employees who are prepared to take on the risk of ownership, a management buy-out can help ensure continuity of personnel and the business itself.

There are many methods of structuring and financing a management buy-out, including stock options, a buy-out over time, or a financial purchase. Each of these has different implications for your business, taxes and the timing and amount of income you will derive from the transfer of ownership.

Selling the Business to an Outside Party

You may decide that selling your business to an outside party is the best option for all. Selling your business can create immediate value and also limit family disputes.
A sale can be structured in many different ways, depending on your objectives. Seeking the advice of professionals to help you determine the right approach will help ensure that a sale achieves your most important goals.

Once you have made the decision to sell, you’ll need to focus on determining the value of your business and finding ways to improve this value so that you can receive the maximum sale price.

Winding Up the Business

In some cases, you may not be able to find an appropriate buyer or successor for your business. However, you still have the option of liquidating business assets such as real estate, inventory, equipment, customer lists, etc…Make sure you get professional advice to find the best way to dispose of assets and minimize tax and other liabilities.

Step 3 – Develop a Succession Plan

Given that your succession plan should be built around the unique characteristics of both your family and your business, every succession plan will be different. However, there are several common elements to most successful plans, including:

• Statement of distribution of ownership: how much to sell and when
• Identity of successor and how they are to be trained
• Business maximization strategies
• Roles of key players during transition
• Business valuation and mechanics of purchase or sale
• Financing
• Taxation and legal considerations
• Retirement and estate considerations
• Monitoring process and procedures for dealing with disputes
• Timetable
• Contingency considerations

Since a variety of expertise is required, it is important that you work with an appropriate team of experts to help you develop your business succession plan. This team should include tax, legal, insurance and investment representatives.

Step 4 – Integrate with Personal Financial Planning
Since your investment in your business is probably your most significant asset, there are a number of important personal and estate planning issues that should be addressed in conjunction with your professional advisors.

Freezing the Value of Your Shares or Estate

For most business owners, your investment in your business will have a high value but a low tax cost. Consequently, a significant tax liability could exist upon transfer of ownership. However, there are several ways you can reduce, or at least defer, taxes.
By freezing the value of your business shares / investment, future gains will accrue to heirs and won’t be taxed until they sell. An estate freeze also effectively locks in the tax liability that would arise upon death, so that you and your business can plan ahead to ensure that this liability can be met.
It’s a good idea to review any plans for retirement at the same time you are considering an estate freeze. As an owner of a business, you have considerable flexibility when it comes to creating sources of retirement income and you should carefully consider each of your retirement savings plan options. Make sure you get professional advice and expert help.

Insurance

Life insurance is a powerful tool by itself and also when used alongside an estate freeze. For many business owners, insurance provides the only real option for dealing with the income tax that will be payable at death, short of selling the business. Once you freeze your estate, you can purchase enough insurance to pay the projected tax liability.
Life insurance has a second important use in estate planning for family business owners. Treating your family fairly doesn’t necessarily (and often does not) mean treating them equally when it comes to your business. In particular, splitting the shares of a family business equally among children who have varying degrees of involvement in the business can cause problems. To avoid these problems while maintaining fairness, insurance can create an “instant estate” that can be used to provide for children who are not active in the business.

Retirement Planning

As an owner of a business, you do have flexibility when it comes to creating a source of income in retirement, and you should consider each of these retirement savings options when planning for retirement.

• Maximize RRSP Contributions – If you receive a salary from your corporation, this salary will be earned income for the purposes of making RRSP contributions.
• Individual Pension Plans – It may be possible to set up a pension plan for yourself and other family members, known as an Individual Pension Plan, or IPP. For older business owners, the potential retirement benefits provided by an IPP can exceed the benefits provided by regular RRSP contributions. The rules are complicated however, and these plans are more costly to run when compared to a conventional RRSP.
• Redemption of Freeze Shares in Retirement – If you implement an estate freeze, you will generally hold fixed-value preference shares after the freeze. Once you retire, these shares can be redeemed over time, providing you with dividend income from the corporation. These redemptions will also reduce the accrued gain that will be taxable upon death.

Given that there is risk associated with all businesses, it is usually prudent to use some or all of the methods discussed to save for retirement. Should the business fail or experience cash flow problems, you should have other sources of income to fall back on.

Preserving Your Estate

We’ve already touched on the importance of preserving your estate and the value of your business. As a business owner, there are a number of steps you can take to protect your business assets. In addition to good management and insurance, you may want to consider the use of a holding company for real estate assets or your business itself for both liability and tax reasons. If creditor claims are made against the operating company, the real estate may be sheltered from these claims.
A holding company can also be useful if your business generates cash flow in excess of amounts required for business investments and cash paid to you as a salary or dividend. If a holding company holds the shares of your operating company, the excess cash can be paid to the holding company as a dividend on a regular basis, and again this cash may be protected from creditors. The inter-company dividend will generally be tax-free.

Step 5 – Monitor Plan Implementation

If you’ve started your planning early, the transition period between the development of your plan and the actual time of succession may be several years. It is important to monitor and review your plan during this implementation period to ensure that you are on track in terms of timing and deliverables.
Your business succession plan is something that should be reviewed on a regular basis – at least annually – and whenever there is a major event such as a birth, marriage, illness or death, family member entering the business or even relevant change in tax legislation.

Contact us at (604) 535-4749, or use our contact page.

Business Succession Planning: Elements of a Plan

Succession planning does not take place in isolation from the larger issue of your overall financial security. An effective succession plan will examine all aspects of your financial situation. This includes:

A) Distribution of Ownership

If transferring ownership of your business, a shareholder agreement is a key tool that should be considered.

B) Selecting and Grooming Your Successor

Identifying the right person to take over when you leave is a process that requires thought and planning.

C) Business Maximization Strategies

There are many strategies you should consider prior to the sale or transfer of ownership.

D) The Role of Key Employees

Key employees are vital to the success of ownership transition, and can help in the planning process.

E) Business Valuation

While you may have a good idea of what your business is worth, you should still consult with a professional business valuator to confirm or determine this crucial figure.

F) Financing and the Mechanics of Sale

Financing the change of ownership should be a key part of your succession plan.

G) Taxation and Legal Considerations

It is important that you consult with your tax and legal advisors early in the process to make sure that your plan achieves your objectives.

H) Retirement and Estate Considerations

Since your investment in your business is probably your most significant asset, there are a number of important retirement and estate planning issues that should be addressed.

I) Timetable

Ensure there is a clear timetable so those involved know what will be expected of them, and when.

J) Monitoring Process

Be sure to update plan as necessary when there are changes to your business and/or personal situation.

K) Contingency Considerations and Risk Management

If you were suddenly unavailable to manage the business, who would take over your responsibilities?
Drawing on expertise from across the Scotiabank Group and working with your professional advisors we can ensure that your business succession plan and personal financial plan are aligned to create a superior, overall plan.

A) Distribution of Ownership

If you are transferring ownership of your business, a shareholder agreement is a key tool that should be considered.
A shareholder agreement is an agreement that governs the conduct of shareholders and determines ownership rules. It should address all areas of possible concern, including who can hold shares, it and how shares can be sold or transferred, and to whom, and what happens in the event of a marriage breakdown, disability or death.

B) Selecting and Grooming Your Successor

Identifying the right person to take over the reins when you leave is a process that requires careful thought and planning, particularly if your successor is a family member or key employee.
When selecting a successor, you’ll need to:

• Establish measurable criteria for assessing potential successors
• Identify suitable candidates
• Identify gaps in their skill and experience
• Create and implement management development plans
• Evaluate successor candidates
• Select a successor
• Train and prepare your successor to run the business
• Communicate to key stakeholders
• Manage the transition

C) Business Maximization Strategies

To ensure that your business can be successfully sold, and to maximize the price you receive, there are many strategies you should consider prior to sale or transfer of ownership.
Implementing some of these may be a relatively lengthy process, which is another reason planning well in advance of your target exit date is important.

• Focus on business growth and profitability
• Diversification of customer and supplier base
• Reduction of operating costs
• Evaluation of discretionary expenses
• Tax minimization strategies, including potential business re-structuring
• Development of good management infrastructure to reduce reliance on yourself and ensure that knowledge is not overly concentrated
• Removal of non-operating assets

D) The Role of Key Employees

Key employees are critical to the success of ownership transition, as they provide continuity in the day-to-day operations of the business. They can also offer real help in the planning process and involving them will help prevent the rumours and innuendo that might otherwise arise on the employee ‘grapevine’ in the absence of official information.
You can protect your business against the risk of these employees suffering from premature death, by insuring them with key person insurance. Your business would purchase life insurance on the employee, pay the premiums and become the beneficiary of the policy. In the event of a key person’s death, the business would receive the insurance proceeds, which can provide the funds necessary to help survive the tragic occurrence.

E) Business Valuation

In order to receive a fair price from the sale of your business, you need to establish its value accurately. While you may have a good idea of what your business is worth, you should still consult with a professional business valuator to confirm or determine this crucial figure. A professional valuator will help you examine what it is you have to sell (eg. inventory, equipment, customer lists, contracts), whether your business is worth more whole or in pieces, how much of the value is dependent upon you being at the helm, and what actions you can take to improve value between now and sale.
In Canada, professional business valuators are governed by The Canadian Institute of Chartered Business Valuators (CICBV). Members of the CICBV are financial professionals who have met rigorous professional and education standards and received the designation of Chartered Business Valuator (CBV). Businesses of all sizes rely on CBVs to provide expert valuations for many kinds of business transactions.
Valuators use a variety of measures to establish value and will consider factors such as:

• Nature and history of the business
• Outlook for the business and the industry in which it operates
• Financial position and capital structure of the company
• The company’s historical earnings record and estimated future earnings
• Comparable businesses and sale transactions

F) Financing and the Mechanics of Sale

Whether your strategy involves family succession, management buy-out or sale of the business, financing the change of ownership should be a key part of your succession plan.
The key elements you need to determine are:

• What is being sold – assets of the business or shares (which include the ongoing rights and obligations of the business)?
• Purchase price – may be affected by the payment structure and type you negotiate
• Timing and method of payment – for example, lump sum, periodic payments, regular dividends?
• Purchaser’s arrangements for financing the transaction

Finding the right financial structure for the transfer or sale of ownership in your business will depend on your own objectives and the different tax and legal considerations of each alternative approach, which must be weighed along with lifestyle considerations. The success of your deal often relies on your ability to involve the right financial, legal and succession planning advisors to help you sort through and evaluate the different options available.
For the Purchaser, the key considerations are:

• Identifying the sources and amount of financing which will be available
• Being able to raise required financing on favourable terms

The Purchaser’s financing may come from a variety of sources, including but not limited to:

• A line of operating credit secured by the operations of the business
• A long-term loan, often to finance fixed assets such as real estate, machinery and equipment
• A vendor take-back, through which you, as the seller, provide a loan or become an investor in the business
• An equity investment
• Outside capital

As a seller of your business, it is important that you evaluate your purchaser’s ability to invest in the business early in the process. If the buyer is unable to raise the necessary financing, the closing of the sale could be delayed or even jeopardized. If the purchaser has difficulty raising the necessary financing, it may be advisable to move on to another purchaser, even it you have to accept a lower sale price.

G) Taxation and Legal Considerations

There is a wide range of tax and legal issues you will need to consider when selling or transferring ownership of your business. While there are common methods of dealing with these considerations, each situation is unique and your tax specialist and lawyer can advise you in the context of your own particular circumstances.
If your business is a qualifying small business corporation, your shares may be eligible for a capital gains exemption of up to $500,000. If your business is larger or does not qualify for the exemption, the disposition may trigger a sizable capital gain. Fortunately, there are several strategies you can use to minimize the tax impact and your tax advisor can help determine which of these may be appropriate for you.
Your lawyer will need to prepare several legal documents to give effect to your succession plan. Some of these relate directly to the transfer of ownership – such as the purchase and sale agreement – while others – such as your Will and power of attorney – relate to your personal financial and estate planning.

It is important that you consult with your tax and legal advisors early in the process to make sure that your plan achieves your objectives. Do not attempt to undertake a tax planning strategy, enter into an agreement or sign a legal document without first seeking the appropriate financial advice.

H) Retirement and Estate Considerations

It is important to ensure that your personal retirement and estate goals are coordinated with your business succession plan. Since your investment in your business is probably your most significant asset, there are a number of important retirement and estate planning issues that should be addressed, including:

• Freezing the value of your shares / estate
• Insurance
• Retirement planning
• Preserving your estate

All of these items require considerable thought and a good knowledge of understanding of your options. This is why it’s particularly important to obtain expert advice from specialists in tax, legal, investment, estate management and other disciplines in developing your succession plan.

I) Timetable

When you deliver your plan, you should ensure that there is a clear timetable, so those involved know exactly what will be expected of them and when. Vague time references should be avoided. For example, if your plan is to continue working until the day-to-day responsibilities become too much to handle, this could mean that your successor is waiting for the inevitable – illness or death.
As a minimum, dates should be set for the following:

• Retirement of the business owner
• Transfer of share ownership
• Transfer of voting control

One final point to keep in mind is that once you have set a specific timetable, you should stick to it. If the timetable is not followed, the credibility of the entire plan will suffer greatly in the eyes of all involved.

J) Monitoring Process

Finally, your succession plan should include a process for regular reviews of scheduled activities to ensure that things are on track. It is also important to communicate your plan with key stakeholders and keep them informed of progress and any changes along the way. Be sure to update and adjust your plan as necessary if and when there are changes to your business and/or personal situation.
Even the ‘best laid’ plans do not always foresee every eventuality or prevent disagreements between key stakeholders from occurring. Your plan should include methods for resolving disputes between stakeholders, family members and other relevant stakeholders, if and when they arise.

K) Contingency Considerations and Risk Management

Your succession plan should include a contingency or back-up plan. If illness or death meant that you were suddenly unavailable to manage the business, who would take over your responsibilities?
A contingency plan provides guidance on how the business should carry on in the event of your sudden death or disability. It sets out who would take charge in your absence in order to keep the business running. The contingency plan also takes into consideration how the succession process would be affected and how it should continue if you are no longer there to manage it.
Insurance can be an effective tool in managing risk prior to business ownership transition. Some of the key items and effective insurance plan can address include:

• Key person protection
• Buy-out funding
• Funding of capital gains tax
• Estate equalization

Using insurance strategically within a succession plan can be complex, so it’s important to work with an insurance expert who can recommend the best approach for you.  When developing your succession plan it’s important to assemble the right team of professionals. Whatever you do, don’t go it alone. Working with our team of experts from across the Scotiabank Group, we can help you get started on a plan that is right for you.  Contact us at (604) 535-4749, or use our contact page.

Borrowing to Contribute to Your RRSP

Does it make sense?

If you have not yet made the maximum contribution to your RRSP for 2007, or have unused contribution room from previous years, now is the time to consider an RRSP loan.

Should you borrow to invest in your RRSP? There’s no simple answer to this question as it really depends on your financial situation.

Short Term RRSP Loans

The general rule of thumb is that as long as you can pay back your RRSP loan within the year, you are better off than if you do not make the contribution at all. For example, if you borrow $10,000 at 5%, your monthly payment would be $856 and your total principal and interest payments for the year would be $10,273. If your RRSP grew at 8%, the total value of the contribution after one year would be $10,800.

After one year, you are already ahead by $527. This does not take into account that by making this contribution, you may be eligible for a tax refund. If you are in the highest marginal tax bracket (46.41% in Ontario), this $10,000 RRSP contribution will result in a tax refund of up to $4,600. If this refund is used to pay down your RRSP loan, this scenario gets even better as it will reduce your loan to approximately $5,000.

Long Term RRSP Loans

What happens if you are unable to pay back your RRSP loan within the year? This may be the case if you have large amounts of unused RRSP room. For example, what if you had $50,000 in unused room and were able to get a 5% loan for 5 years starting January 1, 2008, your monthly payments for the first six months would be roughly $950. The tax refund generated from the contribution ($23,000 assuming you are in the highest marginal tax bracket in Ontario) should be used to pay down your loan. Once you have reduced your outstanding loan by the tax refund you have two choices, you can either continue to pay $950 a month, which would result in you paying off your loan by July 31, 2010. Or, you can keep your 5-year term and reduce your loan payment to $470. Under the first option, your total payments are
$52,500 and under the second option, your total payments are $54,000. Assuming an 8% rate of return in your RRSP, within 5 years the $50,000 contribution will be worth $73,466 and within 25 years it will be worth $340,000!

As you can see from the above example, people that benefit the most from long term RRSP loans are those who are able to use up the majority of their unused RRSP room and have many years until retirement. The advantages of borrowing are most effective if the money can benefit from tax-free growth (in excess of the interest payable on the borrowed money) for many years.

Remember – RRSP Loans Are Not Tax Deductible

The interest on a loan for your RRSP is not tax deductible. However, money borrowed to earn non- registered investment income is deductible. This is why it may make sense to use extra cash to contribute to your RRSP and borrowed funds for non registered investments.

The Bottom Line
If the only way you are able to contribute to your RRSP this year is to take out a loan it may be a good idea. However, the longer the loan is outstanding the more non-deductible interest you will end up paying.  Contact us at (604) 535-4749, or use our contact page.

The Benefits of Testamentary Trusts

Testamentary trusts can provide both significant tax and non-tax estate planning benefits, but are often overlooked in estate planning.

A testamentary trust is created in a Will and comes into effect only upon the testator’s death. A testamentary trust, like all trusts, creates a legal relationship between the testator (the one creating the trust), the beneficiaries and the trustee. Simply stated, the testator funds and creates the terms of the trust. The trustee assumes legal title to the trust property and manages the trust in accordance with its terms, for the benefit of the beneficiaries. The terms of the trust may dictate such items as whether the payment of income and capital is to be fixed or at the discretion of the trustee, how the trust fund is to be invested and at what age or ages the beneficiaries are to receive their entitlement.

Income tax benefits

Testamentary trusts receive favourable tax treatment under the Income Tax Act. Testamentary trusts are essentially separate taxpayers and are taxed using the graduated rates applicable to individuals. This feature can provide significant income splitting opportunities.

Income earned by a testamentary trust may be taxed in the trust, rather than in the beneficiaries’ hands. The trustee can elect to have income and gains taxed in the trust even if these amounts have been paid  or are payable to a beneficiary. As a result, income that might otherwise be taxed at the highest marginal tax rate in the beneficiary’s hands can be taxed at a lower graduated rate in the trust. For example, trust investments worth $1 million and earning 4% per annum generate $40,000 in income. Taxing this income
in the trust rather than in the hands of a beneficiary at the top marginal rate, may generate approximately $8,000 in annual tax savings at current rates.

Such tax savings may be increased by creating multiple testamentary trusts for multiple beneficiaries.

Where the beneficiary of the trust is the testator’s spouse, the standard deemed disposition at death may be deferred. In other words, appreciated capital assets can be rolled into a qualifying spousal trust at their cost base thereby deferring capital gains until the assets are sold or the beneficiary spouse dies. In all other cases, care must be taken to avoid the negative impact of the “21-year deemed disposition rule”. This rule creates a deemed disposition of all capital property held in a trust every 21 years, with the
resultant capital gains taxed at that time. The implications of this rule can be avoided by careful planning.

Non-income tax benefits

There are also a number of non-tax reasons you may want to consider a testamentary trust; including: the management of family assets for the benefit of adult and/or minor family members; charitable purposes; the protection of assets from claims of other parties. For instance, testamentary trusts can be useful in achieving the following estate-planning goals:
Protecting a special needs beneficiary
In most provinces, a special discretionary trust, sometimes known as a Henson Trust, can be created to provide a mentally or physically challenged beneficiary with access to income and perhaps capital, without disqualifying the beneficiary from provincial disability benefits. A discretionary trust can also be used to protect an adult spendthrift child from mismanaging their inheritance.

Preserving family assets

A testamentary trust can be used to protect assets such as a family business or cottage from potential claimants such as a widow or widower’s new partner, or children’s spouses in the event of marital breakdown. In certain provinces, a trust may be the only way a parent can insulate assets bequeathed to their children from matrimonial claims in the event of marriage breakdown.

Safeguarding children from a previous marriage

A testamentary trust can be designed to provide an income stream for a spouse while ensuring that capital is preserved for the testator’s children from a prior marriage. Care must be taken in establishing such as trust in order to take advantage of the tax-deferred spousal rollover.

Creditor Protection

A fully discretionary testamentary trust under which the beneficiary has no enforceable right to the assets and may in fact forfeit all entitlement in the event of bankruptcy, can offer protection against the claims of creditors.

Charitable giving

Individuals with philanthropic interests may wish to create a charitable trust in their Will. A charitable testamentary trust may take effect immediately on death or may only take effect following the death of an intervening life interest. For example, an individual may wish to provide a surviving spouse with an income stream for life, with the capital of the trust going to charity on the death of the surviving spouse. Enhanced charitable receipts are available when gifts are made in the year of death.

Providing oversight

A testamentary trust allows you to provide guidance and exercise some control over how an inheritance is managed and spent. Essential in the case of minor beneficiaries, such control may also be desirable in the case of adult beneficiaries who may be financially immature. Payment of income and capital may be fixed or at the discretion of the trustee and capital payments may be staggered to ensure that the inheritance is not simply squandered.

The Butler / Laing Group and our professionals from across the Scotiabank Group have the knowledge, resources and expertise to help you understand your options and determine what is ultimately appropriate for you.  Contact us at (604) 535-4749, or use our contact page.

Trusts explained

Trusts can be used to manage your estate assets, provide tax reduction and deferral opportunities, fund allowances and endowments for family members, serve as tax-advantaged strategies for charitable gift-giving, provide ownership privacy, and much more.

Here’s how a trust works: you appoint a secure and reliable third party (an individual or a trust company), as your trustee to look after certain assets for the benefit of your beneficiaries. To make the trust legal, you must transfer title or ownership of those assets to the trustee. The trustee in turn invests the assets, manages the growth, and sees that the assets are distributed to beneficiaries according to your instructions.
A trust may operate while you are alive, after your death, or both, and may be used to ensure that your assets are always managed according to your wishes.

Risky to delay estate matters

As average lifespans increase, so does the probability of acquiring a critical illness, requiring long-term care or becoming mentally incapacitated during our lifetime. A forward-looking estate plan would provide for these health conditions using insurance.

Incapacity or ill-health raises another estate planning issue: what if you aren’t capable of making crucial decisions concerning your health, finances or the care of your children? To prepare for such a possibility, you need to name a power of attorney (Mandate in Quebec), both for personal care and for property and asset management.

The individual(s) or trust company you name as your attorney will have the power to make these important decisions for you.

If you have minor children, you should take great care to nominate a Guardian for them – someone with similar values, who is physically, emotionally and financially capable of taking responsibility if necessary. Your estate plan should protect you and your assets from the risks of financial and legal mismanagement, and excess taxation.

The Butler / Laing Group has the knowledge, resources and team of experts to help you develop a plan that offers these protections, and greater peace of mind for you, your family and beneficiaries.  Contact us at (604) 535-4749, or use our contact page.

When is a Trust Really a Trust?

Trusts are simple arrangements whereby the settlor of the trust places property in it for the benefit of one or more beneficiaries. The settlor will also appoint a trustee whose job it is to ensure the terms of the trust are followed. These terms and any other rules required for the operation of the trust are established by the settlor.

From a wealth planning perspective, the difficulty with understanding trusts stems from the fact that there are both legal and tax issues that must be satisfied in order for an arrangement to truly be considered a trust. This article will discuss these issues.

Inter-Vivos & Testamentary Trusts

Trusts occur in two forms, either Inter-Vivos or Testamentary. Inter-Vivos (living) trusts are set up by an individual (referred to as the settlor) while he/she is alive, with the intention that the property placed in the trust will be managed by the trustee according to the terms of the trust. Alter Ego, Joint Spousal and even Informal (Oral In-trust accounts) trusts are different types of inter-vivos trusts. Information on Alter Ego and Joint Spousal trusts can be found on SC Online at PCFS/Wealth Planning.

Testamentary trusts differ from inter-vivos trusts in that they are only created upon the death of the settlor and are done so through the settlor’s will. Testamentary trusts are created for a number of reasons. One of the more common is to help reduce a surviving spouse’s tax liability by splitting income between assets owned directly by the spouse, and assets held by the testamentary trust. The type of trust that accomplishes this is referred to as a Spousal Trust.

Informal (Oral) Trusts

Informal trusts (sometimes referred to as “oral trusts”) occur where funds are set aside for the benefit of another “in-trust” without the benefit of a formal trust deed or indenture. These in-trust accounts are usually created for the benefit of a minor child and are typically labeled as “Jane Doe In-Trust for John Doe”. Due to their informal nature, these types of accounts, although referred to as such, may not actually be trusts. Establishing a trust involves more than just placing the words “in-trust” on an account application.

The 3 Certainties of a Trust

From a legal perspective, three “certainties” must exist in order for a trust to be recognized under law. These certainties are known as the Certainty of Object, the Certainty of Subject Matter and the Certainty of Intention. These certainties must be present for any type of trust to be recognized by both the courts and the Canada Customs and Revenue Agency.

The Certainty of Object refers to the objectives of the trust in so far as it must be possible to ascertain who is to benefit from the trust i.e.what is the objective of the trust. The Certainty of Subject matter refers to the fact that a trust must have in its possession, an identifiable asset that has been conveyed by the
settlor of the trust. Lastly, the Certainty of Intention demands that the settlor clearly had the intention to pass the asset on to the trust with the explicit intention of having a trust created.

Are In-Trust Accounts Considered Trusts?

A trust exists as long as the three certainties exist. A trust does not have to exist in writing, but it is highly recommended that written evidence exists that documents the terms of the trust. This is particularly an issue where in-trust accounts are concerned.

Due to the informal nature of in-trust accounts and the fact that very little in the way of written evidence is established when they are created, many of these accounts are not considered actual trusts. The problem is twofold. The first has already been discussed. That is, since no written evidence exists, it is difficult to establish that the three certainties have been met. It is not impossible to do, just difficult.

The second problem is a little more technical and has to do with the income splitting benefits that are usually associated with setting up in-trust accounts.
Section 75(2) of the Income Tax Act (ITA) states that if under the terms of the trust, the property in the trust:
can revert back to the settlor or pass to some other person or
the property in the trust cannot be dealt with without the settlor’s permission,
then any income or capital gain from the account becomes the settlor’s.

Since in-trust accounts are rarely put into written form, The Canada Custom and Revenue Agency’s position is that it will be difficult for the parties involved to establish that the informal trust does not contravene section 75(2) of the act.

As an example, parents and grandparents who establish in-trust accounts don’t typically understand the limits imposed on them if these arrangements are truly to be considered trusts. Many believe they can take these assets back at their own discretion. Believing that this is possible, not to mention actually doing it, would indicate that the certainty of intention had never been met. As well, the conditions of 75(2) would not have been met and would therefore make any tax advantage that would have otherwise been gained, null and void.

In conclusion, although the setting up of a trust can be a rather straightforward matter, it is imperative that both advisors and their clients fully understand the implications of setting up trusts and trust accounts, to avoid any future misunderstandings, tax or otherwise. 

Contact us at (604) 535-4749, or use our contact page.

Note: The above article is for information purposes only and should not be construed as offering tax advice. Individuals should consult with their personal tax advisors before taking any action based upon the information in this article.

Back to Basics: A Reminder of RRSP Musts

To play any game, it is important to know the rules and how they may affect the outcome or result of the game. Not to suggest that planning for retirement is a game, but knowing how RRSP rules can affect your retirement planning is very important. Below are a few of the “must knows” for your RRSP planning.

1. Maximize your contribution

The more you put away the more you will have. It is important to know the maximum allowable limit for your financial situation. Currently for 2007, you can contribute 18% of your prior year’s earned income up to a maximum of $19,000 less your pension adjustment (PA) and your past service pension adjustment (PSPA). Remember also that carryforwards of unused contributions from 1991 onward can also be contributed.

2. Contribute Today

The sooner you contribute, the sooner your savings start growing for your retirement. The compounding of interest returns can make a big difference on your RRSP balance over time.

3. Spousal RRSPs
Contributions can be made to a spousal RRSP that will allow income splitting at retirement which in turn will reduce the amount of tax that you will pay. Contributions are limited to your personal limit.

4. No More Foreign Content Limit

• 30% foreign content limit in RRSPs and registered pension plans is now a thing of the past.
• Canadian investors now have the option to invest up to 100% of their retirement plans into foreign securities, without penalty.
• Opportunities for money managers to seek out the best investment opportunities wherever they exist is wonderful news for Canadians - provides the opportunity for greater diversity and more attractive risk-adjusted returns.

5. Consolidation

Consolidating your assets leads to more efficient asset management as well as reduced costs. The Butler / Laing Group will be happy to discuss why consolidation would be right for you.

Contact us at (604) 535-4749, or use our contact page.

Optimizing risk and reward for business owners

Business owners have a significant opportunity to build financial security for themselves and their families. The trick is to maximize this opportunity while also minimizing risk.

For example, if you have an employee who is critical to the success of your business, what would happen if they passed away? How could the loss of a major shareholder affect the ownership structure of your company? And down the road, how can you maximize the after-tax value of your business for your heirs?

Cover a key person

The first thing a small business owner should address is ensuring that the passing of a key person will not disrupt, or even destroy, the operations of the business. A key person could be the founder of the company, whose intimate knowledge and vision is irreplaceable. Maybe it’s a sales person, the loss of whose relationship skills would mean the defection of important customers. Or maybe it’s an employee with unique skills that are fundamentally necessary to the business.

There may not be a way to avoid the risk of losing a critical employee, but insurance can at least hedge this risk by ensuring you have enough funds at the right time to locate a suitable replacement, bring them up to speed, and sustain the company’s financial health.

Maintain your ownership

What if the key person who passes away is also a major stakeholder in your business? It’s wise to have a buy-sell agreement in place that allows the surviving partners to buy the deceased’s ownership and maintain control of the company. However, according to Rob McGavin, Head of Insurance for ScotiaMcLeod, it’s not always that simple:

“The question is how will the partners afford to pay for the deceased’s share at precisely the time they are required to do so? They could try saving in advance, but nobody knows exactly when the money will be needed, or how much. Borrowing is another alternative, but the loss of a partner could make it difficult to obtain or afford additional credit. Selling business assets might work, but this could also harm the business, or force the partners to accept poor value for the assets.”

The solution is often life insurance because no other vehicle will deliver exactly the amount of money you need at exactly the time you need it, and the costs can be minimal compared to the other options.

Protect your legacy

Life insurance can also be a solution to the problem of capital gains tax owed by your estate upon death. Rather than forcing your heirs to deplete corporate assets – or even sell the business – to pay the tax bill, you can make sure they have adequate life insurance proceeds to cover this need. A variety of insurance-based strategies can ensure that you control the destiny of your business.

Create additional wealth

Not only is life insurance a tool for managing risks and protecting your assets, it is a vehicle that can provide tax-sheltered growth and deliver a tremendous after-tax value for your family. You can also create unique incentive programs for employees using various insurance strategies. For example, you can offer them the potential to use the cash value of a policy to secure retirement income.

Whether you want to enhance your retirement income, reduce taxation, or simply maximize your legacy, there are strategies available that will fit within your overall financial plan and give you, your family, and your business partners greater peace of mind.

Update your business plan

If you’ve worked hard to build a successful enterprise, it makes sense to treat its financial protection just as seriously as its financial growth. The Butler / Laing Group has the knowledge, resources and team of experts to identify the specific opportunities and risks surrounding your business, and recommend solutions that will protect your assets and help you achieve your goals.  Contact us at (604) 535-4749, or use our contact page.

Planning For Your Children’s Education

Registered Education Savings Plan (RESP)

There are several ways to fund a child’s post secondary education; one might be to anticipate a child will receive scholarships or use student loans; ‘pay as you go’ although budgeting your cash flow will be more difficult; or start a savings plan now to prepare for the inevitable future expense. The following article will focus on one of these savings plan strategies; a Registered Education Savings Plan (RESP).

Background

An RESP is a tax deferral plan designed to help save for a student’s post-secondary education. It was created as a way for Canadians to save for education without the growth being taxed under the regular attribution rules. Normally, when you give your minor child money, interest or dividends earned on this money is taxed as if you had received the income i.e. it is attributed back to the parent and taxed in their hands. Please note: capital gain income does not attribute back to the parents.

Previously the rules governing an RESP were onerous. If your child did not attend a qualifying institution (i.e. college or university), all of the growth, interest, dividends and capital gains went to the educational institution that you designated on your RESP contract. The good news is that the Canada Customs and Revenue Agency (CRA) has significantly enhanced the RESP rules. In addition to the tax advantages, there are increased savings limits, additional termination options and the Canada Education Savings Grant (CESG).

Rules
Although contributions to an RESP are not tax deductible, all of the income in the plan compounds on a tax deferred basis. Further more, when the accumulated income is withdrawn from the plan to pay for education expenses, the student pays the taxes not the contributor. In most cases, this income would attract little tax because the student’s basic personal exemption and tuition and education credits will offset this tax liability.

Any individual can set up an RESP. This includes grandparents, aunts, uncles, godparents and friends (does not include trust or corporations).

The contributions may be made for up to 21 years, to a lifetime maximum of $50,000 per beneficiary with no annual maximum contribution. If these limits are exceeded, a one per cent per month penalty tax is charged until the over-contributed amount is withdrawn from the plan.

If the child does not proceed with post secondary education, the contributions are returned to the contributor with no tax consequences and the CESG is returned to the government. The accumulated income that has not been paid out to the beneficiary can be returned to the contributor.

Contact us at (604) 535-4749, or use our contact page.

Protecting your family and your business

If you are a business owner, your focus is likely on the long-term viability of your business. Decisions you make today may impact your business tomorrow and thereafter. Think back to the last time you made a major purchase for your business. Before making that decision, you probably examined all your options and evaluated the costs and benefits of making the purchase.

When it comes to personal and business financial planning, the same forethought is warranted. Have you ever evaluated the costs to the business if you were no longer involved in it? A long term disability, diagnosis of an illness or death could have a devastating effect on your business, not to mention your family.

Putting your family first

If you have a spouse or children who depend on your income, you must consider what would happen if you were no longer able to run your business. Insurance provides a safety net that can help ensure your loved ones will retain a comfortable standard of living in the event of your death or disability or diagnosis of a critical illness.

Protecting against the loss of a key person

To maintain its success, your business relies on the leadership, experience or skills of one or more individuals. That person could be you, your business partners or a few key employees whose absence from your company could lead to its demise. Key person insurance can provide important financial assistance to your business after the loss of a crucial individual.

Funding for a buy-sell agreement

If you have business partners, you may have a buy-sell agreement in place. This document outlines what should be done in the event of the death, disability or retirement of one of the shareholders. If this agreement requires the partners to acquire the shares of a departed associate, how will they afford it? Insurance can provide a timely funding solution for buy-sell agreements.

Creating a succession plan

Your hard work and determination – coupled with your family’s support – has helped you build your business into the success it is today. If you want your family business to remain a family business after you’re gone, you need to address the impact of corporate and estate taxes on the value of your estate. Insurance can provide solutions to keep your success in the family.

Minimize tax

When setting up an insurance strategy, it pays to consider whether the policy should be personally or corporately owned. If your business qualifies, you may have the opportunity to pass the proceeds of a corporately-owned policy through the Capital dividend Account (CDA) on a tax-free basis.

The Butler / Laing Group has the knowledge, resources and team of experts to assess your insurance needs, and create a forward-looking strategy to protect your wealth today and tomorrow, giving you and your family greater peace of mind.  Contact us at (604) 535-4749, or use our contact page.

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