Rebalancing for the Beneficiaries


In Toronto, a retired professional we'll call Willy, 73, needs to revise his estate plan for his wife, Alexis, 42, two sons from a previous marriage now in their forties and two grandchildren, ages 11 and 9. The sons have substantial incomes of their own.

At first glance, Willy and Alexis - married for 10 years - should have no financial problems. The value of their financial assets and their house totals more than $4.1-million. Their monthly income, $7,739 after tax, leaves a balance for saving. But when Willy dies, non-registered assets in his estate may be heavily taxed.

"I have been working on an estate plan for 10 years," Willy says. "With the economy suffering and my life progressing, I felt it important to get a fresh view of my financial affairs."

What our expert says

Facelift asked Derek Moran, head of Smarter Financial Planning Ltd. in Kelowna, B.C., to work with the couple.

"Serious issues lurk behind the couple's currently ample income," he says. "Willy has several complex insurance policies. He had a heart attack two years ago. He needs a financial plan that will work now and after he has passed away."

Willy pays $2,078 a month in life insurance premiums. The policies combine an investment component with insurance. The death benefit on the policies is $2.3-million and his grandchildren, now minors, will inherit $1-million of those benefits, payable when their father dies. Willy also has a hybrid life insurance policy with a critical illness component. The insurance portion will pay $700,000 on Alexis's death to the grandchildren.

Given Willy's health and age, life insurance is an appropriate investment, Mr. Moran says.

For now, Alexis stands to inherit a home with an estimated present market value of $530,000 and approximately $600,000 of investments at current prices. Her inheritance is not likely to maintain her present way of life. Moreover, the part of her inheritance that comes from non-registered accounts will be subject to taxes.

The grandchildren will fare better than Alexis, he says.

If Willy died this year and Alexis were to keep the home and not sell it, she would have assets from her inheritance - assuming 3-per-cent real annual growth - sufficient to yield income of $18,000 a year, or $1,500 a month, before tax.

Were Willy to die in 10 years, when Alexis is 52, her assets would then support annual withdrawals of $24,190, or $2,016 a month. At age 65, assuming her capital had not been reduced by withdrawals or market declines, her inheritance would pay $35,524 a year or $2,960 a month. All figures are in 2009 dollars.

At Willy's death, Alexis would receive a monthly CPP Survivor Benefit of $165.60, plus 37.5 per cent of the CPP benefit payable to Willy. Assuming Willy got the maximum of $10,905, it would give Alexis a monthly income of $506.38 until age 65, when the payment would convert to 60 per cent of Willy's benefit, or $545.25 a month. At 65, having spent most of her life in Canada, she could receive close to the maximum Old Age Security benefit, currently $6,204 a year or $517 a month.

A homemaker, Alexis has not earned a CPP entitlement of her own. Adding up all income sources at age 65, she would have $4,022 a month. Willy thinks Alexis could downsize the home after he dies and pocket the difference as she finds somewhere smaller to live. It may make financial sense, but losing her home could add to her burdens.

There ought to be a more efficient way to distribute Willy's estate, Mr. Moran says. The existing plan is for two-thirds of the RRIF, which currently totals $705,000, to be paid out to the grandsons and a third to Alexis. What goes to the grandsons will be taxed at up to 45 per cent, Mr. Moran says.

The distribution would be more tax-efficient if more of the RRIF went to Alexis. That way, money in Willy's RRIF would not be taxed until she withdraws it. Willy could add to what Alexis inherits with life insurance already in force. Life insurance to a named beneficiary will not be taxed on distribution, Mr. Moran adds.

There is more that Willy can do to reduce his present income tax and exposure to the OAS clawback that begins at $64,718 of net income. He could consider a loan to Alexis of his non-registered assets. She would have to pay him interest at the Canada Revenue Agency prescribed rate - now at 1 per cent a year and likely to remain at a low single-digit level for the next few years.

The process would shift investment income to her. If the prescribed rate were to rise to mid-single digits or more, challenging investment returns, she could repay the loan.

"These suggestions will lower annual income taxes and leave more for Alexis," Mr. Moran says. "They are fair and tax efficient. He should review them with his lawyer."

Client situation

The People

Toronto husband, 73, and wife, 42.

The Problem

Estate planning for benefit of wife and grandchildren.

The Plan

Restructure will for tax efficiency, use income splits to increase family income.THE PAYOFF
More money for wife after husband's death, less tax payable during his life.MONTHLY NET INCOME


Condo $530,000, RRIF $705,000, taxable investments $570,000, life insurance at death $2.3-million, car $10,000, other $15,000. Total: $4.13-million.

Monthly Disbursements

Food $475, restaurant $185, condo fees $789, property tax $314, utilities $243, condo maintenance $185, clothing $335, Car gas, repairs & insurance $154, health care $622, entertainment $73, insurance premiums $2,078, miscellaneous $400, charity & gifts $219, income tax $1,058, savings $1,667. Total $7,739.



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