The CRA wants a gift too
Thinking of giving a gift to children or grandchildren this year? Perhaps an investment, a cottage property, or even a principal residence? If so, you might consider getting some tax advice, because you might just be giving some of that gift to the Canada Revenue Agency too.
Unlike the U.S., Canada does not have a gift tax on gifts of money or property to your family members. However, there are a variety of other tax rules that can be triggered by a gift between family members. Obviously, these rules would not apply to gifts such as a sweater or an iPhone. But what if you wanted to make a grand gesture, and gift the cottage property to your kids? Or gift a large amount of cash to your family so they can invest on their own? That's when things gets tricky.
Subject to certain exceptions, the tax rules have two main purposes: (1) to ensure that the CRA gets its fair share of the tax on any accrued gain; and (2) to prevent "abusive" income-splitting transactions among related persons.
Fair market value is key
Where you transfer property to a family member (i.e., any non-arm's-length person) for less than fair market value, your "deemed proceeds" will be adjusted upward to the fair market value of the transferred property. This may not mean much if the fair market value of the property is not more than the cost of the property to you (i.e., if you gift a used car to your kids, chances are that the current value of the car is lower than what you paid for it).
However, if the property has increased in value since you acquired it, this will mean that you will have a capital gains tax hit on the gift equal to the increase in value. The silver lining (however thin) is that if you transfer the property by way of gift to your loved one, the cost of the property to them will also be adjusted upward so that the tax hit is only to you, the "giftor."
Transfers of property to a spouse
Another rule to lighten your load relates to gifts to a spouse. There is an exception to the rules discussed above for gifts to a spouse. Usually, a transfer of a property to a spouse will automatically occur on a tax-free rollover basis, unless you elect otherwise (i.e., you are deemed to have transferred the property at your cost to your spouse). Note: This also applies to any property that is transferred to a former spouse as a result of a settlement upon marriage breakdown. However, this spousal rollover applies only where both spouses are Canadian residents at the time of the transfer. But the net effect is that you, as the giftor, do not get hit with a deemed capital gain, and your spouse inherits your original cost amount.
Attribution to a spouse or minor child
Despite the lax rules relating to gifts to spouses, the ubiquitous attribution rules will still sneak up on you for gifts of property to your spouse or a minor child that create income. Specifically, any future income from the gifted property will be included in your income even though you no longer own it. Talk about double jeopardy!
The attribution rules will also jump into play in the case of a loan or incurred debt on a transfer of property, unless the prescribed rate of interest is charged and paid for each year the loan is outstanding (it's currently 2%). And if you think that the attribution rules have exhausted their reach, think again: Any capital gain realized on a sale or other disposition by your spouse will also be attributable to you. Happily, though, this rule relating to capital gains does not apply to your minor kids. Which means that you should be able to legitimately split capital gains with your kids.
So what's the point of gifting to your kids or spouse if you're not going to get any tax benefits (other than love and gratitude from them)?
- First, there is no attribution where the property is received from a non-resident (i.e., this is of use if your kids have grandparents that might live in Florida or elsewhere).
- Next, try to gift investments with low current yield but high capital gain potential to your kids. Even though the. income may be attributed to you, the capital gain will be taxed to your kids and subject to their (usually lower) tax rates.
- Finally, "child tax benefits" accumulated directly in segregated bank accounts for the benefit of your kids are considered funds of the child rather than the parent.
Transfers to adult children
Transfers to adult children (18 years of age or older) can be made without the attribution rules kicking in, so that the income will be taxable to your kids. But beware of the rule regarding inadequate consideration (see my comments on "fair market value" above).
Previously published in The Fund Library on January 20, 2020.
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.