Saturday, October 5, 2002

Written Off, But Not Forgiven: The Ironic Story of Joe Markevich

If the Supreme Court of Canada upholds a recent decision of the Federal Court of Appeal, tax authorities may lose the right to collect a tax debt if they let it sit too long. Even if the appeal is overturned, the CCRA still might not collect on the debt in issue. The unintended results of a long-standing CCRA policy are an instructive tale for the public and a sad lesson in irony for one taxpayer. Joe Markevich is a taxpayer whose tax debt was administratively “written off” in 1987. From 1987 to 1997, the CCRA did not act to collect the tax debt. In 1987 Mr. Markevich was insolvent and could not pay his taxes even if he wanted to. In the cryptic world of tax law, written off only means - the authorities are not actively pursuing debt collection at this time. It is doubtful that Mr. Markevich understood the implications of his debt being “written off.”

In 1998 – after a 10-year hiatus - the CCRA started collection action. By this time, Mr. Markevich’s personal situation had rebounded. Unfortunately, with interest, his total debt had grown from $230,000 to well over $750,000. In court, Mr. Markevich argued that provincial limitation laws prevented the CCRA from taking collection action.

The Federal Court of Appeal agreed with Mr. Markevich. Provincial limitation laws apply to tax debts just like any other debt.

Not Over Yet

The Supreme Court of Canada has agreed to hear an appeal of the Federal Court’s decision. Furthermore, the CCRA has indicated that it will ask for an amendment to the Income Tax Act if it loses the appeal.

Amending the ITA will not necessarily prevent the application of provincial limitation periods to federal tax debts. Arguably, once a tax debt is fixed, it comes under the domain of provincial constitutional jurisdiction. Amending the ITA could be a fruitless exercise if the courts see debt collection as a matter under exclusive provincial authority.

Instructive for the Public

Do you fit into the Markevich category? A creditor generally has 6 years to sue on a debt. If the creditor does nothing for 6 years, the debt is extinguished. If, at any time within that 6-year period, a debtor confirms the obligation, the 6-year time period is reset back to zero. Making a debt payment is an acknowledgment.

In counting the 6-year period, the hard part may be trying to determine when the right to sue arose. For example, the Excise Tax Act makes directors jointly and severally liable for a corporation’s GST debts at the time the corporation becomes liable. However, the CCRA can collect from the director only after the CCRA takes certain actions that signify that it tried unsuccessfully to collect from the corporation. Those actions often occur years after the corporation incurred the GST obligation. In some circumstances, it is very difficult to determine when the clock started ticking.

If the CCRA has advised you that a tax debt has been “written off”, you need to consider what that means to your long-term financial health. The CCRA will not write off obligations if taxpayers have the ability to pay their debts. Any business or financial decisions will be tainted by the growing debt, whether the CCRA is actively pursuing collection actions or lurking in the weeds. Remember, the debt is not forgiven. Govern yourself accordingly.

Ironic for Mr. Markevich

The CCRA wants Mr. Markevich to pay his debt. On the one hand, if Mr. Markevich loses at the Supreme Court, he may have to declare bankruptcy. The CCRA will not get its back taxes and Mr. Markevich will have to rebuild his financial life from scratch (again). Who would have thought that writing off a debt would lead to bankruptcy? On the other hand, if the CCRA loses, the government is probably going to change the law and we will have further uncertainty until the new rules are litigated in the courts. Who would have thought that a Supreme Court decision would lead to uncertainty in the law?

Certainly either result would be ironic. I doubt taxpayers would find either result satisfactory.

-- J. Andre Rachert

The above article provides general commentary of an educational nature. It does not constitute advice for any specific person or any specific set of circumstances. Because circumstances vary, readers should consult professional advisers in order to obtain advice that is applicable to their specific circumstances.

Friday, April 5, 2002

Pitfalls of Joint Ownership

Many British Columbians have been placing assets in joint ownership as a way of avoiding probate. While joint ownership of assets can be useful in some situations, it is often fraught with hidden dangers. This article attempts to dispel some of the many misunderstandings about joint ownership. As well, the article points out some of the dangers of holding property in that manner.

Types of Joint Ownership

There are two types of joint ownership: tenancy in common and joint tenancy.

To illustrate the difference between the two, assume that X and Y are joint owners of real estate.
If X and Y are tenants in common, the ownership interests of X and Y do not have to be equal. For example, X could own 1% of the real estate and Y could own 99%. Alternatively, X could own 25% and Y could own 75%. Or they could each own 50%. As well, each of X and Y will be able to pass their respective interests on to their heirs. Specifically, each of X and Y can leave their respective interests to their children.

If X and Y are joint tenants, the situation is quite different. By definition, each joint tenant owns an equal proportion of the property. For example, X cannot own 1% while Y owns 99%. Each of X and Y have to own 50%. Furthermore, each of X and Y have a right of survivorship. This means that the survivor of X and Y will end up owning the entire property. If X dies first, X cannot leave his interest in the property to his children. His interest passes automatically to Y. Whichever joint tenant outlives the other is the one who ends up with the property and the ability to pass the property to heirs.

Joint Tenancy Problems

A surviving joint tenant automatically takes the interest held by a deceased joint tenant. This rule operates without probate. As a result, many British Columbians have chosen to hold assets in joint tenancy as a way of avoiding probate. However, there are a number of problems with this approach.

First of all, joint tenancy merely defers probate. It does not avoid probate. For example, assume that a husband and wife own property as joint tenants. If the husband dies first, there is no probate of the property because it passes automatically to the wife. However, there will be probate of the asset on the death of the wife (she is then the sole owner of the property).

The wife could once again defer probate by retitling the property after the husband's death. For example, the wife could become a joint tenant with her adult child. However, that retitling of the property will result in a disposition of 50% of the property. This disposition could give rise to immediate capital gains tax.

If the property is the principal residence of the wife, the capital gain will be tax-exempt. However, a deferred tax cost will arise. For income tax purposes, a person can have only one principal residence. If the child already has a residence, the child will not be able to claim the principal residence exemption on both the child's residence and the child's 50% interest in his mother's residence. If the residence is sold after the mother's death, 50% of any gain that accrued after the child became a joint tenant will be subject to capital gains tax. Depending on the rate of increase in property values, the capital gains tax that is triggered could be much higher than the probate tax that is avoided. This capital gains tax would not have been payable if the wife had remained the sole owner of the residence until her death.

Some British Columbians have been attempting to avoid probate by having registered title held by a parent and child as joint tenants and having a side agreement under which the child holds his interest in the property on behalf of the parent (or holds only a very small percentage interest in the property). This structure simply does not avoid probate. No joint tenancy has been created, because joint tenancy requires that each joint tenant have an equal interest in the property.

Joint tenancy results in loss of control. As noted above, the surviving joint tenant gets full ownership of the property. Full ownership includes full control. For example, assume that Mr. and Mrs. Z own property as joint tenants. If Mr. Z dies first, Mrs. Z will become the sole owner of the property. Assume that Mrs. Z remarries (people who have enjoyed happy marriages often marry again). Mrs. Z may well make her new husband a joint tenant of all her property. Under the spousal transfer provisions of the Income Tax Act, Mrs. Z can do this without triggering income tax; consequently, she thinks that there are no significant consequences to the change. If Mrs. Z predeceases her new husband, however, all that property will become the property of the new husband. The new husband's will may leave all his assets to his children. The result is that the children of Mr. and Mrs. Z get disinherited through inadvertence.

Loss of control is particularly troubling when assets are held in joint tenancy with a child. Parents and children are at different stages of life. While the parent may be looking forward to retirement with a healthy nest egg that the parent has built up over time, the child is often going through a process of establishing a business or acquiring assets. This means that the child is taking on debt and incurring liabilities. If the child is a joint owner of property, the child's percentage interest in that property is an asset of the child and is subject to claims by creditors of the child. For example, assume that the child is a joint owner of the parent's home and the child's new business goes under. The child's creditors will likely make a claim against all the assets of the child - including the child's interest in the parent's home.

Children can also run into matrimonial difficulties. If the child is a joint owner of the parent's property and separates or divorces, the parents may see a significant percentage of "their" property going to the former spouse of their child.

Finally, one cannot control who the surviving joint tenant will be. Assume that a parent owns assets jointly with a child and the parent and child are both killed in the same accident. If it is impossible to tell which person died first, the younger child is deemed to have survived the older parent. In that case, the property would pass under the will of the child. If the child is one of several children, this may not be what the parent intended at all.


On the surface, holding assets in joint tenancy appears to be an easy and convenient way of avoiding probate. As well, it is psychologically pleasing because of the implied trust and sense of togetherness between the joint tenants. As discussed above, however, joint tenancy has significant drawbacks. It results in a loss of control over the asset, may trigger undesired tax consequences and may result in a person being unable to pass property to intended heirs.

Perhaps the biggest problem with joint tenancy is that it does not provide planning opportunities. Other ownership structures not only avoid probate but can also serve to manage and reduce income tax liabilities.

-- Blair P. Dwyer

The above article provides general commentary of an educational nature. It does not constitute advice for any specific person or any specific set of circumstances. Because circumstances vary, readers should consult professional advisers in order to obtain advice that is applicable to their specific circumstances.

Tuesday, March 5, 2002

Estate Planning Philosophy

Tax planning is an integral part of estate planning. However, tax is merely one of many considerations.

We approach estate plans by first trying to identify the needs and desires of the client. After determining the client's overall objectives, we then design and implement a plan that will accomplish those objectives in a tax-efficient manner. The primary objective is always to make the plan fit the client rather than making the client fit the plan.

The objectives of estate planning vary from client to client. However, we have found that most clients have the following general objectives (the order of importance may vary).
  • Protect assets.
  • Control what is given, when it is given and to whom it is given.
  • Incur a minimum of red tape and a minimum of adviser fees.
  • Pay the least amount of tax possible.
A comprehensive estate plan will often rely on a whole range of planning tools, many of which must be in place well before the date of death. These include a tax-effective will and may also include living trusts (including spousal, joint spousal, family and alter-ego trusts), shareholder agreements (especially important for entrepreneurs), estate freezes and health care directives. If probate avoidance is an important concern, it may be that little or no portion of the estate will pass through the will. The exact plan depends on the overall objectives of the client.

The firm does not sell or otherwise deal in life insurance. However, members of the firm are familiar with the various uses of life insurance products in planning situations. Consequently, we are able to offer our clients independent advice on whether and how a specific type of life insurance product can fit into their overall plan (for example, by providing a tax-sheltered fund for paying taxes due on death).

-- Blair P. Dwyer

The above article provides general commentary of an educational nature. It does not constitute advice for any specific person or any specific set of circumstances. Because circumstances vary, readers should consult professional advisers in order to obtain advice that is applicable to their specific circumstances.

Monday, March 4, 2002

Joint Spousal and Alter Ego Trusts

An individual who is 65 or older may use a special form of living trust as an alternative to a will.

The special form of trust is the alter ego trust and the joint spousal trust. Both trusts are very useful for persons who want to avoid probate.

Why are these Trusts Special?

Normally, a transfer of assets to a trust triggers tax on any increase in the value of the assets since the date of original acquisition. However, a transfer of assets to an alter ego trust or a joint spousal trust will not trigger that tax. From an income tax perspective, it will be as if the transfer never occurred. For estate planning purposes, however, the trust will now be the owner of the property. This means that the property can pass to children without having to go through probate.

To illustrate, assume that John owns some assets that have increased in value.

John will be able to gift the assets to an alter ego trust without triggering any capital gains tax. In order for the trust to qualify as an alter ego trust, John must be the sole beneficiary during John's lifetime. Prior to John's death, all income in the trust will be payable to John and John will pay all the tax on that income. As well, John can also access the capital in the trust. On John's death, the trust will hold any remaining assets for the benefit of other beneficiaries named in the trust deed (most likely, the children of John). The trust will be able to distribute those assets to those other beneficiaries without the assets having to go through the probate process.

John could also choose to gift the assets to a joint spousal trust. In a joint spousal trust, the initial beneficiaries must be John and his wife during their respective lifetimes. On the death of the surviving spouse, the trust would start to hold the trust assets for other persons named by John in the trust deed (most likely, John's children). In particular, John's spouse would not be able to change the identity of these ultimate beneficiaries.


The principal advantage of the alter ego and joint spousal trusts is the avoidance of probate. Many clients wish to avoid probate in order to avoid paying the 1.4% probate tax, which is levied on the gross value of assets passing under a will. Other reasons for avoiding probate are as follows.

Under the Wills Variation Act, any child of the deceased can ask the court to rewrite the will if the child is not satisfied with its provisions. The courts then determine whether the deceased fulfilled his or her moral obligation to the child (independent of the need of the child). Litigation has been increasing in this area. Assets held in a living trust (a trust established prior to death) would not be subject to this legislation.

Probating a will is a public process. The probate application must list all the assets of the deceased and the total value of those assets. This list is available to any member of the public on payment of a nominal fee. If the assets are held in a living trust at the time of death, the assets would not be subject to this public disclosure requirement.

In order to avoid probate, many British Columbians have been placing the ownership of assets into joint tenancy with their children. This can have serious disadvantages, as discussed in a separate article, "Pitfalls of Joint Ownership". The alter ego and joint spousal trusts allow parents to avoid these disadvantages.

Control of the Trust Assets

The parents can act as trustees of a joint spousal trust and thereby retain control over their assets. If assets are held in a trust, it is more difficult for creditors and former spouses of the children to assert claims against the assets. And placing the assets in an alter ego or joint spousal trust does not trigger capital gains tax.

Income Taxes on Death

While the alter ego and joint spousal trusts can avoid probate, they do not avoid the taxation of accrued capital gains on death. A deemed disposition of assets for income tax purposes will occur at the same time as that deemed disposition would have occurred if no trust had been established. The alter ego trust is deemed to dispose of its assets on the death of the individual who established the trust, whereas a joint spousal trust is deemed to dispose of its assets on the death of the surviving spouse. This is the same result that would have applied if the assets had been held directly and not through a trust.

Normally, a trust is subject to a deemed disposition of its assets every 21 years. However, the alter ego and joint spousal trusts are exempt from this rule until the death of the initial beneficiary (in the case of an alter ego trust) or the surviving spouse (in the case of a joint spousal trust). Consequently, an alter ego trust and a joint spousal trust need not deal with deemed dispositions during the lifetime of the individual or the spouses (as the case may be). This is good tax policy, as it avoids an 86 year-old being faced with a huge tax bill because he forgot that his 86th birthday was also the 21st anniversary of his alter ego or joint spousal trust.

Use in Estate Freezes

The alter ego trust and the joint spousal trust will make it much easier to avoid probate and can offer additional flexibility to the standard estate freeze. In a typical estate freeze, the parent exchanges common shares for special shares with a fixed value equal to the value of the corporation. A trust for the children then subscribes for new common shares at a nominal value. The common shares held by the children's trust will receive all future growth in value, but the special shares held by the parent typically have a significant current value and a significant inherent capital gain. In order to avoid triggering the inherent capital gain, the parent usually retains personal ownership of the special shares, which can expose those shares to probate.

It will be possible for the parent to gift the special shares to a joint spousal trust without triggering immediate tax on the capital gain. All trust income would be available for use by the parent and the parent's spouse during their respective lifetimes. On the death of the survivor, the assets in the trust would be held for new beneficiaries named in the trust deed (presumably, the children), effectively bypassing probate.

A person may establish an alter ego or joint spousal trust only if the person is 65 years of age or older. While Canadians under the age of 65 can use another method to avoid recognizing capital gains on assets transferred to a trust, that topic must be the subject of another article.

-- Blair P. Dwyer

The above article provides general commentary of an educational nature. It does not constitute advice for any specific person or any specific set of circumstances. Because circumstances vary, readers should consult professional advisers in order to obtain advice that is applicable to their specific circumstances.