An inheritance tax is any tax that is expected to be paid on assets inherited from a family member or close friend, usually after the event of their death.
Whether you expect to receive any form of inheritance, have already inherited any assets, or on the flip side, are planning to leave some inheritance for someone in Canada, this article covers the key information on what you need to know.
Did You Know?
You can receive an inheritance without any tax obligations in Canada.
Is there an Inheritance Tax in Canada?
Most people are unaware of the expectations on taxes for inheritances.
Typically, you do not have to pay taxes on assets you have inherited.
Any outstanding taxes on the deceased’s assets are taken care of by an executor through an estate before the inherited assets are transferred to a beneficiary.
However, there may be exceptions depending on the type of asset and if the beneficiary is an eligible spouse or common-law partner.
Does the Estate pay taxes?
For income tax purposes, when a person dies without a designated beneficiary, a surviving spouse, or common-law partner, owned assets are considered to be sold at a fair market value even though they are not technically ‘sold’.
This is done to attach a value to the income or capital gain from the deceased’s assets.
The income from the deceased person will then be transferred to an estate.
A final tax return will need to be filed to account for all income from assets in the deceased’s estate.
The final return determines the taxes that would then be paid on the taxable income of an estate.
The income tax treatment may vary across different types of assets.
Here are examples of three different major types of inherited assets and how they may be taxed:
1. RRSPs and Registered Assets
For registered assets such as a registered retirement savings plan (RRSP), when a person dies, the plan issuer — a financial institution where the asset is held – will prepare the necessary tax slips to show income from the deceased’s plan.
The Canada Revenue Agency (CRA) generally recognizes any taxable income based on the fair market value of all assets held in the registered plan before the person’s death.
If the deceased has a designated beneficiary other than a spouse or common-law partner, this deemed income plus other amounts paid from the registered plan in the year will need to be reported on the deceased’s final income tax and benefit return.
The designated beneficiary will not be subject to tax on the inheritance received from the plan provided that all income has been included in the deceased’s final return.
It is important to note that if any income is deemed to have not been taxed before being transferred to you as a beneficiary, then you may have to pay taxes on the amount identified only.
If there is no designated beneficiary through a contract or will, then the assets of the deceased will be transferred to an estate through which the taxes will be administered.
There are exceptions to the treatment of an inheritance tax for registered plans that have a designated spouse or common-law partner as a beneficiary.
This is discussed later in this article.
2. Real Estate / Property
Generally, if someone dies and leaves behind real estate, the CRA will deem the property to be sold at the fair market value and a capital gain will be recognized if this amount is greater than the original cost of the real estate asset.
This capital gain will be subject to tax, however, only 50% of the capital gain plus any rental income earned up until the person’s death would be taxable income.
The beneficiary of the real estate property may have to pay taxes on any rental income from the property following the person’s death.
If the deceased person was a resident of Canada and had a property that is transferred to a surviving spouse or common-law partner, the deemed proceeds from the deceased’s property are considered to be the adjusted cost base of the property, and therefore capital gains would be deferred until when the beneficiary makes an actual sale of the property.
If the property owned by the person at the time of death was a principal residence, a principal residence designation may have to be made to qualify for any tax exemptions or specific tax treatments.
3. Equity Holdings
When a person dies, the fair market value of any financial investments owned such as stocks would be determined to arrive at any capital gains earned.
The asset is deemed to have been sold before the person’s death and any capital gains realized would then be reported in the deceased’s final return and taxed appropriately.
If a deceased person has invested in stocks valued at $100,000 at the time of death, and the adjusted cost base of the investment is calculated as $80,000, then a capital gains tax would apply to 50% of the $20,000 gain ($100,000 – $80,000).
When this financial investment is eventually transferred to a beneficiary, it would not be subject to tax.
Can a Spouse Inherit the Estate?
The treatment of an estate inheritance tax can defer depending on if the deceased person has a surviving spouse or common-law partner.
For example, if a spouse or common partner is designated as the sole beneficiary of an RRSP, the CRA will generally not recognize income from the deceased at the time of death, provided that the RRSP is transferred directly to a registered pension plan or income fund such as an RRSP, a pooled registered pension plan (PRPP), a registered retirement income fund (RRIF) or a purchased annuity owned by the spouse or common-law partner by December 31 of the year after the year of death.
If the RRSP had already started making payments to the deceased, then the annuity payments will be transferred to the spouse or common partner who will then report this income in their tax return for the applicable year.
For all other assets, the general rule is that any inheritance by a spouse is not taxed provided they have already been taxed in a final return through the administration of the estate.
Frequently Asked Questions
- Are there capital gains on inherited property in Canada?
Yes, there are capital gains on inherited real estate property in Canada. The capital gains will be calculated based on the difference between the fair market value of the asset at the time of death and the original cost of the asset or the fair market value of the asset when ownership was transferred if it was inherited by the deceased.
- How much can you inherit without paying taxes?
Generally, there are no inheritance taxes in Canada as the final return for the deceased would already be filed and all taxes would have been paid from an estate.