Many tax returns need to be filed after a person passes away.RobMattingley/iStockPhoto / Getty Images
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Filing your taxes every year can be a challenge, but filing a person’s final tax return after their passing can be complicated by myriad tax rules – as well as raw emotions and grief.
For clients in this predicament, advisors will often refer accountants who specialize in estates to handle the filing of T1 Income Tax and Benefit returns (called final returns) and T3 Trust Income Tax and Benefit returns, which include the income of the estate. There are also optional T1 returns, which can include income owed at the time of death but not yet received, such as dividends from a public or private company.
“A lot of things go into those final tax returns, which is why ... even personally, I would go to an accountant,” says Matt Ardrey, portfolio manager and senior financial planner at Tridelta Private Wealth in Toronto. “You’re trying to deal with this massive loss in your life, and then trying to navigate a very complicated system. This is the time that it makes sense to seek a little help.”
The timing of a person’s death will determine certain filing deadlines. For example, if a person died Feb. 1, they likely haven’t filed a return for 2023 yet, says Debbie Pearl-Weinberg, executive director of tax and estate planning with CIBC Private Wealth. That 2023 return must be filed six months after the date of death.
The final return will include any income from Jan. 1 to Feb. 1, 2024, and needs to be filed by April 30, 2025. If a person dies between Jan. 1 and Oct. 31, the deadline for their final return is April 30 the following year. If a person dies in November or December, their estate has six months to file the final return. Then, T3 estate returns need to be filed every year until all property and assets of the deceased have been distributed, including paying any probate or estate taxes.
“When somebody dies, it creates what’s called the deemed disposition of all their capital property at the time of their death at its fair market value,” Ms. Pearl-Weinberg says. “That means they’re going to have a recognition on the death of a capital gain or capital loss,” which is different from what’s on a regular annual tax return.
One exception would be property jointly held with, say, a spouse or common-law partner, she says. In those cases, the property is not taxed until the second spouse or common-law partner passes away.
Registered investment accounts including registered retirement savings plans (RRSPs), registered retirement income funds (RRIFs) and tax-free savings accounts (TFSAs) will go to the beneficiaries. RRSPs and RRIFs won’t be taxed if they’re going to a spouse. If the beneficiary is an independent adult child, they won’t have to pay tax on the RRSP or RRIF amount as the amount would have been included in the deceased’s income for the year of death. For TFSAs, beneficiaries receive the amount tax-free.
However, if non-registered investment accounts are not held jointly with a spouse and are frozen, there is little an advisor can do until the estate gets settled, Mr. Ardrey says. “You’re kind of just sitting out there and in a sort of limbo, you don’t have access to the money. We can be … watching the markets tank and I can’t trade; I can’t fix it.”
Advisors must also follow any policies and procedures their firm has in place to deal with the death of a client and ensure the correct documentation – the will, identity of the beneficiaries, and official death certificate – are in hand before they make any changes to accounts, he says.
Paying the piper
One big issue when a person dies is determining how to pay the tax bill. It’s important for the executor not to distribute all the assets of the estate until they have a clearance certificate from the Canada Revenue Agency (CRA) that states all the taxes have been paid, says Tim Cestnick, co-founder and chief executive officer of Our Family Office Inc. in Toronto.
“If you distribute the assets to the beneficiaries, it may be hard to get the money back later to pay the tax bill,” he explains, and the beneficiaries will be on the hook for those taxes.
There are a few ways to pay those taxes owed. The executor can try to negotiate with the CRA to pay the tax over time; however, the tax agency will charge interest on the overdue taxes – and that can be “pretty steep,” Mr. Cestnick says. Another option is to borrow the money to pay the taxes, he adds.
In addition, assets can be sold, “but you also want to make sure that all the beneficiaries are going to bear the burden of the taxes equally,” Mr. Cestnick says.
That may mean if one adult child wants to keep the family cottage and not sell it to pay the taxes, they may have to buy the cottage from the estate and buy out the two other adult children, he explains.
Or if one adult child gets the cottage and the other gets the investment portfolio, they still both pay their fair share of the taxes even though the investment portfolio is the liquid asset that can be sold to pay the taxes, and the cottage isn’t.
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Editor’s note: A previous version of this article incorrectly stated when a 2023 tax return for someone who died on Feb. 1 must be filed. The return must be filed six months after the date of death. The article also stated that beneficiaries who are independent adult children are taxed on amounts received from RRSPs and RRIFs. Rather, an independent adult child beneficiary won’t have to pay tax on the value of the RRSP or RRIF on the date of death as the amount would instead have been included in the deceased annuitant’s income. For TFSAs, beneficiaries receive the amount tax-free.