We have all marvelled at the magnificence of baronial manor houses; majestic castles and grand property holdings as we have travelled throughout various parts of the old world. Generally speaking these were all built for the few extraordinarily wealthy on the backs of inexpensive labour by the many in an age where the concept of a social safety net was the exclusive purview of fishermen.
Gradually as collective bargaining caused conscience’s to be tweaked; productivity to be threatened or social unrest to become manifest, the state began to introduce measures of social security for their citizenry.
Slowly the landscape changed as governments, whilst expanding the electoral franchise to more and more of their people could no longer afford to neglect the appalling conditions in which they lived.
For example Chancellor Otto Von Bismarck who unified Germany in 1871 and made it a major player in world affairs introduced in the 1880’s what is regarded now as the basis of the first modern welfare state through the introduction of state pensions; unemployment insurance; accident insurance and medical care.
The next question was where would the money come from to pay for such state benefits? As necessity is the mother of invention the first emigration policy of many great colonial powers had consisted of the forced migration of the poor and unemployed to the New World, which resulted in an immediate double upside through the reduction of benefit costs in the mother country and a new supply of inexpensive labour in her colonies – albeit this time with an opportunity to own land.
Happily, over time, courageous political; social; industrial and religious leadership forced the Great Powers to enhance the quality of life it provided for its citizenry. Fiscally stretched governments then turned full circle to the great classes of the old landowners and levied the first estate taxes to pay for it.
The UK, to utilize the example of a fellow Commonwealth member, in 1796 introduced her first legacy, succession and estate duties; her first permanent income tax was introduced in 1842 and in 1894 the introduction of death duties resulted in the break-up of many large estates.
From a modest beginning, taxes of all forms grew exponentially such that during the Second World War in the UK the top marginal income tax bracket was 99.25%.
As a result many estates held by families for generations were forced to be sold to pay the taxes and a climate of mutual mistrust and avoidance resulted between the authorities who collected the taxes and the individuals who created the wealth. As the latter voted with their feet and moved off-shore, the state also incurred lost opportunity costs on what otherwise would have been substantial personal and corporate tax revenues.
In 1974 the top marginal income tax rate of 83% when combined with the 15% surcharge on unearned income totaled 98% in the UK. The first act of the Thatcher Government when it took office in 1979 was to reduce the top marginal income tax rate to 60% and again to 40% by 1988. (note 50% effective 2011/2012). The top UK capital gains tax is 28%.
The Canadian example is similar in that the successive tax reforms of the Mulroney Government, led by Finance Minister Michael Wilson; the Chretien Government under Finance Minister Paul Martin and the Harper Government of today under Finance Minister Flaherty have resulted in a functional; open and efficient tax system. The creation of a value added consumption tax; the lowering of personal and corporate income taxes; the introduction of a departure tax if leaving the country and a capital gains tax have allowed Canada to be regarded internationally as a progressive jurisdiction in which to work and live and at the same time allowed the Government of Canada to achieve prudent fiscal policy which is envied around the world.
Today with the exception of a family’s principle residence, all assets are deemed to be disposed at fair market value at the second death of a spouse , at which time basically a tax of 50 percent on 50 percent of all gains over and above the original cost base is levied, which in simple terms equates to approximately 25 per cent on the whole.
On the one hand high net worth individuals and families are not forced to liquidate assets; which means that they are encouraged to build their net worth in the country and pay their fair share of tax en route.
On the other hand, not many driven and successful people are enamoured by the thought of turning over 25 per cent of their net worth just because they inevitably stop breathing; especially when they have paid their fair share of corporate and personal tax through the corporations which they built and on the personal income that they earned over the course of their lifetimes.
Estate Planning is no longer default accounting; scurrilous avoidance or a ticket out of the country. Rather it is the encouragement from the Canadian Income Tax Act of the ordering of one’s affairs in a manner via legal means to minimize taxes. It is a collegial exercise with one’s estate planning, legal, accounting and investment advisers that should always be driven first by the objectives of the family or corporation as opposed to a desire to pay the least amount of tax. If financial planning is the art of wealth creation; then estate planning is the science of its effective dispersal.
The first question to be asked is the philosophy behind the mission of the family’s estate plan. Is there a requirement to provide capital for dependents? A need to provide for a physically or intellectually disabled family member? Is it important to create a legacy for the community? Or a legacy for successive generations of the family? Are there important recreational or cottage properties to remain in the family? Are their educations to be funded? Is the Family’s net worth a result of agricultural or farming heritage? Are there Family Harmony issues to address in terms of who might get what? Is it important that the underlying family business continue to prosper and grow?
Successful Families with significant net worth share two major common concerns: first that they will not leave a legacy and secondly that their children and/or grandchildren might not by osmosis inherit the same work ethic or interest in making a similar net positive societal impact.
Fortunately in Canada over the years through dialogue with the Department of Finance; CRA and the actions of our courts, a number of excellent planning techniques have evolved to accommodate the philosophy and mission of every Family. A common tool is the creation of tax effective liquidity in the form of permanent life insurance at second death of a spouse, at a cost of pennies on the dollar if structured properly, to fund the effectively 25% capital gains tax. If sufficient liquidity exists at first death, then why not match the funding of the life insurance with the levy of the capital gains tax at second death and take advantage of a significant premium reduction resulting from joint and last to die family insurance coverage which pays out at second death of a spouse?
The estate can opt to pay the tax with these tax free funds on its terminal tax return or provide an instruction that the life insurance be donated to a charitable or not for profit organisation or Family Foundation to not only benefit those meaningful causes the family has for years supported; but also to reduce the estate’s final income tax liability in a like amount. The only thing better than when a plan works; is when its positive consequences are multiplied.
It is our intention to publish a series of articles relating to certain of the above planning concerns and strategies.
For over 43 years, Etherington Generations has been working with our clients and their advisers to ensure that their objectives are well documented in their family and living wills and powers of attorney; shareholder agreements and estate plans. Repeatedly we see personal and corporate wellness; life insurance; retirement and investment vehicles delivered tax efficiently when needed to allow their plans to come to fruition.
But most importantly we treasure the story behind every individual family and corporation and the inter-generational relationships we are able to create. Someone last year or last decade or last century had a vision or a determination to build a value added business or steward a family’s interest; to come to Canada or to stay in Canada and along the way to make Canada a better place. It is our privilege to play a role in their narratives.
