Let's say this couple (50 years old smoker male, 45 years old nonsmoker female, both healthy) has the following assets:
- They live in a house they bought 20 years ago for $50,000; its value is $600,000 now.
- They bought a cottage 10 years ago for $40,000; its value now is $350,000.
- They have a yacht, and two cars, worth $40,000, $30,000, and $20,000, respectively.
- The value of their art collection is $250,000.
- They have accumulated $100,000 for their retirement; this amount is kept in various registered mutual funds and government bonds.
Furthermore, let's suppose that their combined income is $110,000.
Two of their children still in education, this couple has bought life insurance to ensure they will not be hindered financially, anything might happen. However, they also want to leave as much as they can from the accumulating assets of the family to their children and grandchildren.
What happen if they die in a car accident in the middle of this year? How much of their assets is left to their three children?
All their capital assets, except the principal residence of the family, will be deemed to be disposed of immediately before their death, and the capital gains will be added to their income in the last year. It is important to notice that it is not the actually realized capital gains that matter. Instead, Revenue Canada will establish 'fair market value' of assets at the time of death; the actual revenue from their forced sale may be considerably less, even if the heirs actually want (or have to) sell them. Their other choice is to pay the last tax on their parents income, and keep the assets in their natural form.
It is impossible to exactly tell the amount of capital gains tax from the above data, and to elaborate these issues demands the involvement of legal and tax specialists, or estate planners. Still, a rough estimate regarding insurance needs can be given. The capital gain on the cottage is $310,000. The same on their art collection can be another $100,000. Seventy-five percent of the capital gain is taxable. Also, the $100,000 in their RRSP, and the value of their yacht and cars will be given to their income in the last year. The heirs may easily end up with paying tax on $300-400,000, that is with a bill around $200,000. They probably do not have that amount at hand, therefore they can be forced to sell the family cottage. The best way for David and Susan to make sure this scenario will not happen is to buy about $200,000 permanent life insurance. If they want to avoid a situation when the indivisibility of the items of their assets makes it hard to distribute the inheritance evenly, or in any definite proportion they deem right, causing possible sources of tension among the children and their families, they should consider some additional amount of insurance.
What happens if David and Susan live for additional decades and die in 25 or 35 years? Their responsibility for supporting their kids' education will cease in 5 or 10 years; still, they may want to keep the family wealth passed on to the next generations. Since the amount of the capital gains tax will grow together with the value of that capital, they should buy either more life insurance than is needed today, or they should buy pure protection (Term to 100) policy with an increasing face amount, or (probably the best solution) they should buy a universal life insurance policy where the benefit payable at death is the sum of the face amount and the connected investment having been accumulated in a tax-free manner.
Any of the options is chosen, it is advisable that they buy a joint-last-to-die policy. This way, payment of the policy will be triggered by the death of the one of them who lives longer, - exactly when needed for the purposes of estate planning as intended. The cost of the joint policy will be considerably less than what they should pay for a policy on either of them, not to mention two separate policies. If, e.g., they buy a $400,000 joint T100 policy, they have to pay $1,598 annually for the cheapest of the available 20 policies. (By the way, the most expensive one would cost $2,397 a year.) The cheapest similar policy on Susan alone would cost $2,323 a year, and on David alone (older, male, and smoker!) it would cost $6,739 a year.
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