Many cottages are family legacy properties. Either Mom and Dad bought it or maybe inherited it from Grandma and Grandpa. At some point in the future, parents may envision the ownership transferring over to the kids. At that point there is a taxable event. The appraised value at that time, less the original purchase price equals the capital gain. Taxes will be charged at that time based on the highest marginal tax rate (currently 52% in Ontario). That’s charged on half of the capital gain on the cottage. You can do the math on that. That represents the “tax bomb” for the kids.
The point of the above story is that the gain is calculated on the value at the time of disposition (when both Mom and Dad kick) less the original cost, AND there must be paperwork to substantiate it. Here we come to a crossroad where one of two scenarios will happen:
- Purchase and Sale Agreement
In this case, Mom and Dad bought the cottage from someone else. There was a realtor involved and therefore a Purchase and Sale Agreement was drawn up. Where is that document now? For estate planning purposes you should locate that document and keep it with the will, powers of attorney and other important documents for the settlement of the estate. This should be done now, as in today for two reasons: first, it will be a lot harder to locate 20 years from now when Mom and Dad pass and second, if it has been lost you will have to move to scenario 2.
- No Purchase and Sale Agreement Exists
There are a couple of ways this can happen. Either Mom and Dad don’t have it anymore or there never was one in the first place. It may have just been that the cottage changed hands over a handshake and $1 between Grandpa and Dad 30 years ago. There wasn’t a need for a realtor or a Purchase and Sale agreement. In that event, the only evidence of value 30 years ago would be the tax assessment from the township. Every year, the township issues a tax assessment off of which they use the mill rate to calculate the property tax payable. They will have records of that for way back. Again, to prevent the kids from having to figure this out and then track it back 20 years from now it would make life much simpler if the current owners (Mom and Dad) were to do that legwork for the kids and track down the assessed value from the year of purchase. Again, this goes with the will and POAs etc. for the executor and kids when the estate needs to be settled.
I have read literally dozens of articles on planning for the succession of a cottage and have never come across this simple piece of advice.
Your cottage and chalet neighbours will appreciate the heads up as well – forward this to them. Their kids will thank you for it.
Want guidance on avoiding the ‘tax bomb’? Give us a call or e-mail.