Protect your legacy: manage four key factors to transfer an inheritance more effectively (national edition)

For residents of Quebec, view our Quebec edition

Arranging the smooth transfer of assets to heirs can be a challenge for a few reasons. The first relates to time. Often, probate is required before instructions can be carried out and your beneficiaries can receive their inheritance — and the process of obtaining probate can be a lengthy one, frequently taking between 3 to 9 months, or longer if it’s contested.

Second, probate and estate fees may significantly erode the value of an estate, diminishing the amount of money your beneficiaries receive. Third, many investors want to protect the privacy of their bequests, but the probate process leaves the details of an estate open to public scrutiny. In addition to disclosing your financial assets, this may expose your beneficiaries to fraud and provoke conflict among loved ones.

Finally, your heirs will likely be dealing with a powerful mix of emotions throughout the estate settlement process. It’s very important to develop a plan that minimizes hurt feelings and family discord.

Failing to consider any of these 4 factors — time, expenses, privacy, and emotions — may lead to unnecessary delays, financial consequences, and disputes. However, there are steps you can take to help your loved ones receive their inheritance quickly, cost-effectively, confidentially, and with minimum strife.

Let’s look at a specific example. Sarah, a 70-year-old widow, makes a $1,000,000 investment in a non-registered mutual fund today. Ten years from now, she passes away at a time when the fair market value has increased to $1,628,895.

Probate and estate fees vary by province and depend on the complexity of the estate. Let’s assume that the probate fees and the amounts that must be paid to an executor, an estate lawyer, and an accountant will cost $61,261 combined. Income taxes due at death will be $125,779. So, Sarah’s beneficiaries will receive $1,441,854 — their inheritance will be paid to them months down the road.

There are steps you can take to help your loved ones receive their inheritance quickly, cost-effectively, confidentially, and with minimum strife.

Through the probate process Sarah’s will becomes available to the public. In addition to the lack of privacy, her heirs may end up arguing among themselves about what was given to whom, leading to potential family conflict or litigation. This is a real concern for Sarah. Her will divides her estate equally between her son and daughter, but Sarah knows that her daughter won’t be happy to share the estate proceeds with her son. This is because her daughter has been the sole primary caregiver for Sarah while her son has moved away.

On the other hand, naming a beneficiary other than your estate in a segregated fund contract means that the death benefit will flow outside the estate and avoid probate. This helps preserve your confidentiality,¹ allows for a quicker death benefit payout (usually within 10 business days of written notification of death if claims documentation has been provided in good order), and can result in significant savings to your estate.

For example, let’s say that Sarah’s twin sister Lynn chooses to invest $1,000,000 in a non-registered segregated fund contract and names beneficiaries on the policy. She dies 10 years later and her contract’s market value is $1,582,949. This is less than Sarah’s mutual fund because the segregated fund has an incremental cost of 0.3% relative to the mutual fund, reducing its return by that same amount on an annual basis. Her investment bypasses her estate and probate and is paid directly to her beneficiaries.

In Lynn’s case, there are no estate administration-related costs. Her income taxes are $116,590, also less than Sarah’s. As a result, Lynn’s beneficiaries receive $1,466,359. That’s $24,505 more than Sarah’s beneficiaries. In addition, they should receive this sum from the insurance company within 10 business days of written notification of death and provision of claim documents in good order.

Also, Lynn’s privacy, as well as that of her beneficiaries, should be protected from the curiosity of strangers and other heirs, reducing the potential for financial abuse by unscrupulous individuals and family disagreements. If a will is challenged, it can delay the distribution of an estate for months, or even years. It can also be very expensive and significantly reduce the value of an estate and what’s left to distribute. As mentioned earlier, this is a concern for Sarah knowing that her daughter won’t be happy with her share of the estate. A beneficiary designation on a segregated fund contract, on the other hand, isn’t affected by a will challenge.²

Comparing Sarah’s mutual fund with Lynn’s segregated fund

^{For illustration purposes only. Assumes a marginal tax rate of 40%. For customized results, refer to the Estate cost comparison tool.}

Segregated fund contracts offer additional benefits. For example, if a beneficiary of the family class³ is named, the segregated fund contract is generally protected from the contract owner’s creditors during the owner’s lifetime. Also, the death benefit is excluded from the owner’s estate since it's paid directly to the beneficiary, usually placing it beyond the reach of estate creditors.⁴

What if in our example Sarah dies after 3 years and her mutual fund investment has declined by 10% so the investment value is $900,000? All the associated fees would still apply, but they would be lower since the market value of her investment would also be lower. Additionally, any capital loss realized on the deemed disposition at death could be used to generate tax savings. Capital losses in the year of death can be used to offset any capital gains in that same year. If there are excess capital losses they can potentially be used to reduce capital gains from the previous 3 years or reduce other income for the year of death and/or the year before death. Taking that into account, Sarah’s beneficiaries will receive $839,500.

Let’s compare that with Sarah’s twin sister Lynn who wants to protect the value of her investment and chooses a segregated fund with a 100% death benefit guarantee (proportionally reduced for withdrawals). As a result, we’ll assume the incremental cost of the segregated fund increases to 0.8% (instead of 0.3% in the original example).

If Lynn passes at the same time as Sarah, the value of her investment is $877,813 in our example, which is less than Sarah’s mutual fund. However, Lynn’s beneficiaries will receive the full $1,000,000 due to the 100% death benefit guarantee.⁵ We assume there will be no additional tax cost or savings since the capital loss at death would be offset by the death benefit top-up, which is treated as a capital gain, resulting in no taxable income. The result is that Lynn’s beneficiaries receive $160,500 more ($1,000,000 - $839,500) and take advantage of all the other benefits previously mentioned.

Comparing Sarah’s mutual fund with Lynn’s segregated fund

^{For illustration purposes only. Assumes a marginal tax rate of 40%.}

By utilizing segregated fund contracts with beneficiary designations that aren’t your estate, you can better protect the confidentiality of your beneficiaries. In addition, this provides them with a quick death benefit payout and realizes cost savings by avoiding probate and estate administration fees. A segregated fund contract with a 100% death benefit guarantee can also protect the value of your beneficiaries’ inheritance in case the value of the investment declines.⁶ All of this helps make sure that more assets are transferred to loved ones — which is often an important objective of estate plans.

For more information on this and other benefits, make time to talk with your advisor today and find out whether segregated fund contracts have a place in your estate plan.

1 In Saskatchewan, the advantage of preserving a client’s confidentiality doesn’t apply, as jointly held property and insurance policies with a named beneficiary are identified on the application for probate even though these assets don’t flow through the estate and aren’t subject to probate fees. 2 A beneficiary designation can also be challenged, but this doesn’t happen as often because people are often unaware or find out too late to do anything. 3 In provinces other than Quebec, a family class beneficiary is the spouse, child, grandchild, or parent of the annuitant. In Quebec, it’s the spouse, descendants, or ascendants of the owner. 4 Creditor protection, while alive or after death, isn’t absolute and may be nullified where a fraudulent settlement or claim for dependant’s relief has been made. 5 For this example we assume that Lynn did not make any withdrawals. 6 Some segregated fund contracts allow for the death benefit guarantee to reset at a higher amount if the fair market value is higher than the current death benefit guarantee on a particular date.