We’ve all heard the horror stories — families torn apart by fighting over the inheritance of their family cottage. The place that used to bring them all together has suddenly become such a source of conflict it’s driving them apart.
Passing on the family cottage isn’t easy. Why? Because, for most, it isn’t just a piece of real estate. It’s a place filled with fond childhood memories of fishing and swimming and lying out under the stars on warm summer nights. But it takes more than charged emotions to cover the ongoing cost of maintenance and property taxes.
What’s the best way to pass on the family cottage? You need careful planning and a sound financial strategy that includes the following two steps:
1. Talk to your family
It won’t be easy. But you have to try to put your emotions aside and determine the most sensible course of action. Consider:
- Can you really afford to bequeath your cottage? Or do you need the funds to help fund your retirement?
- Do all your kids want to keep it? Or would some prefer a cash settlement?
- Will those who inherit it be able to pay for its taxes and maintenance?
- Are your kids scattered across the country, making it unlikely they could share in it equally?
- Could personality differences be a source of future conflict?
2. Consult a financial advisor
A financial advisor can suggest a number of strategies to help mitigate many of the problems associated with passing on a cottage. Plus, depending on your needs, he or she can direct you to other professionals, such as an estate-planning lawyer or tax accountant. Some of the options they may suggest are:
- Designating your cottage as your principal residence. Your principal residence is sheltered from capital gains tax, so if you own more than one property and your cottage has appreciated the most, this strategy could reduce the amount of tax charged to your estate. And you don’t have to live there full-time to do this. So long as you sleep there occasionally, it qualifies.
- Using life insurance to cover the tax obligations. Securing a life insurance policy with a tax-free death benefit sufficient to pay the tax liability caused by the transfer of the cottage can be a clever strategy. It can also serve to provide a lump sum payment to compensate kids who aren’t interested in inheriting a share of the cottage. And it can even be set up so the kids, who are going to be the ultimate beneficiaries, cover the cost of paying the premium.
- Transferring the cottage to your beneficiaries now. There are several options, including gifting, selling or making your kids joint tenants. Each has its own special considerations. The pros are it will save your estate the probate fees charged when a cottage becomes part of an estate. The cons are you will be giving up control. Plus, gifting triggers an immediate taxable gain, based on fair market value. Gifting a portion of it gradually over time, however, can help spread out the tax bill.
- Putting the cottage in a living (inter vivos) trust. While more expensive than a simple bequest, property transferred to a living trust can be passed on without capital gains tax or probate fees. However, capital gains are only sheltered for a maximum of 21 years. In Canada, living trusts are only available to those 65 years of age and older.
- Setting the cottage up as a non-profit organization. Family members become dues-paying members of an organization that functions like a private club. While the initial transfer is likely to trigger a capital gain, future generations can use the cottage without incurring capital gains tax or probate fees. It works well for large cottage properties suitable to being shared by an extended family.
- Having your kids draft a co-ownership agreement. Working out the details of how they’re going to share the family cottage in the future can help prevent problems after you’re gone. It can also help you to ensure you put the right financial strategies in place to help support their plan.
Soaring property values and related taxes have made passing on the family cottage a lot more complex than it used to be. But careful planning can help ensure it will be enjoyed for generations to come.