Smooth Transition: Keeping Your Cottage in the Family
Family cottages can play an integral role in strengthening family bonds. Over time, traditions are established, festivities are enjoyed and emotional ties are formed, creating a desire to keep these properties in the family for generations. However, a variety of financial and legal concerns can make this more difficult than it sounds.
Transfer Taxes and Ownership Costs
Many people are unaware that parents can't simply transfer a cottage to their kids tax-free. Though a transfer between spouses is tax-free, any time you transfer cottage property to your children it's a taxable sale.
And, once a cottage has been transferred over, new owners may not be prepared for the cost of maintaining a second home, particularly if they have competing financial obligations. If one child is better off than a sibling, they may prefer to pay down the mortgage of their primary residence, contribute to retirement funds or save for their children's education. Some children may be able to afford renovations, while others may not.
With that in mind, cottage owners should seriously consider the possibility that their property may not pass on to the next generation.
Ownership Issues
Even in cases where one or more children are able to take full responsibility for the ownership of a cottage, there are other financial repercussions to consider. Children's spouses will legally own half the cottage, so in the event of a divorce they are entitled to half the assets of the property. Unless there is a marriage contract in place or some other strategy, that spouse can force the sale of the cottage or require their ex-partner to buy them out. This is a real trap people are often unaware of.
While a marriage contract is one way around this problem, it can be an awkward process for the couple in question. Another option is to transfer the property and have the parents require a promissory note for the fair market value of the cottage. Both the child and the spouse sign a promissory note, which will protect the child's interest in the value of the property at the date of transfer. This may allow the cottage to stay in family hands if there is a marriage breakdown.
Transfer Alternatives: Family Trusts
It is worth noting that transferring a cottage directly to children is not your only option. If keeping the cottage in your family for several generations is your primary objective, forming a family trust may be a preferable option. This qualifies as a disposition, so it's necessary to pay tax at the time of the transfer, but it protects you from several other risks. If this is a new cottage or one without a large capital gain, it will be easier to use the family trust. By having the cottage in a trust, the property is more protected from marital breakdowns because it doesn't belong to the children. The beneficiaries of the trust can even be grandchildren, so you can pass on the property for generations to come.
Of course, family trusts are not without their disadvantages. They are costly, can be complicated to draw up, require a trust deed, and the aid of lawyer. But if you own a high-value cottage that you would like to keep in the family for the long haul, it could be your best bet.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.