Winter is coming, and with winter comes snow, snow and more snow. And while Canadian snowbirds can escape the winter in the U.S. Sunbelt, they cannot escape two other certainties: death and taxes. Fortunately, by owning their U.S. property the right way, snowbirds can make sure their loved ones who inherit their property don’t inherit any headaches with it.
Let’s take Florida as an example. What happens when you die owning Florida property? Do your spouse and/or kids get the property, hassle-free? Not even close. Your property now becomes subject to the inconvenient and expensive process known as probate. This is true even if you have a will.
Probate is a legal procedure in which your estate must go to Probate Court in order for your property to be transferred to your beneficiaries. What if your beneficiaries want to sell that property after you die? First, the owner’s will – assuming he or she had one – must be filed with the court, the executor needs to be appointed to represent the estate, and notices must be published in newspapers. This is true even if the will states an executor, as the court needs to formally appoint the executor.
Probate is expensive, freezes the estate and ties up the property for eight to 12 months. Court costs and lawyer’s fees can cost up to 3 per cent to 4 per cent of the market value of the property. And to boot, your beneficiaries won’t be able to sell the property until after this whole process is complete.
But if title to your property is owned in a corporation, partnership or trust, it wouldn’t be subject to probate. Why? Because corporations, partnerships and trusts don’t die. No death means no probate. Let’s examine each of these ownership structures.
One option is to take ownership of property in a Canadian corporation. There is no probate problem since the corporation does not die. Upon the shareholder’s death, his/her shares in the corporation would pass to the beneficiaries. The problem with this solution is that it implicates the “shareholder benefit rule.”
This rule says that if the property is not rented, the use of it is considered a taxable benefit for the shareholder. This means that the rental value of the property must be included as income in the shareholder’s Canadian tax return. Additionally, corporations require annual upkeep, such as filing annual reports in both Canada and Florida. For these reasons, a corporation is not ideal for a personal use property.
The limited partnership
In a limited partnership (LP) structure, the individual owner is the limited partner and owns 99 per cent of the property. The individual’s corporation is the general partner that owns 1 per cent of the property. While this is an acceptable structure for avoiding probate, it is also not well suited for owning a personal use property in the United States. An LP must have a business purpose. It is better suited for investment properties.
The limited liability corporation
Many U.S. lawyers will recommend the use of a limited liability company (LLC), which is a great tool for U.S. residents. However, for Canadian residents, the LLC can lead to the dreaded double taxation. In the U.S., an LLC is considered a “flow-through” entity. Although the property is owned by the LLC, all the income and capital gain is attributed directly to the individual member of the LLC. This provides creditor protection to the individual and avoids probate. However, for Canadian residents, this strategy could be a total loss.
The Canada Revenue Agency (CRA) does not recognize the “flow-through” nature of the LLC. Instead, the CRA taxes income and gain to the LLC itself, not to the individual. When the LLC sells the property, the individual would be taxed on the gain in the U.S., and the LLC would be taxed in Canada. Since the taxpayer is different in each country, there will be no offsetting tax credit in Canada for taxes paid in the U.S. The same tax would therefore unnecessarily be paid twice – the double taxation.
The cross-border trust
The smartest solution for owning personal use property in the United States is the cross-border trust (CBT). In this structure, the property is owned by the CBT. The individual is the trustee of the trust and is the sole beneficiary as well. The individual maintains complete and total control of the property through the CBT. There is no maintenance required for a CBT. No annual filings, no separate tax ID numbers, no additional tax returns, and no double taxation. Since a trust cannot die, the CBT completely avoids probate. The CBT also allows the owner to pass on the property in continued trusts, sometimes called dynasty trusts, to give their children creditor and divorce protection. All in all, the CBT offers the best of all worlds. And it works whether you are making new purchases or you already own the property.
Matt Altro is the president and CEO of MCA Cross Border Advisors Inc. and a certified financial planner in Canada and the United States. David Altro is the managing partner of Altro LLP, which specializes in cross-border tax and estate planning, real estate and immigration. Avi Guttman is an associate at Altro LLP.