Estate planning considerations when naming children or grandchildren as your RRSP or RRIF beneficiaries
By ATB Wealth 10 June 2021 6 min read
In 2019, more than 724,000 Albertans made an RRSP contribution1. So it would not be an overstatement to say these accounts are a widely-used savings vehicle in our province.
RRSPs, as well as their extension, the RRIF, receive unique tax treatment. RRSP contributions create tax deductions; investment income earned within RRSP/RRIF accounts compounds on a tax-deferred basis and withdrawals/deregistrations are generally included in income. These accounts also receive unique tax treatment, on your death.
In Alberta, if you hold an RRSP or a RRIF you are allowed to name a beneficiary of the account, and the beneficiary can be anyone you choose. Generally, if you name a beneficiary directly in the RRSP or RRIF contract, funds pass outside your estate and are paid directly to the named beneficiary(ies) on your death.
Understanding the impact of beneficiary designations and the taxation on these accounts on your death is essential when crafting your estate plan.
Tax treatment of accounts on death
An RRSP or RRIF is deregistered at the time of death unless transferred directly to a “qualifying beneficiary”. The effect of this deregistration is that the entire value of the RRSP or RRIF may be taxable at the time of death.
A transfer of the RRSP assets at death to a qualifying beneficiary can shift the tax liability to the qualifying beneficiary, and in some cases, defer the tax. Qualified beneficiaries are defined as your spouse or common-law partner or a financially dependent child or grandchild. If your spouse is to be the beneficiary of your RRSP or RRIF, please refer to Naming your partner as the beneficiary of your RRSP or RRIF (It's more complicated than you might think) .
Qualified beneficiaries - financially dependent child or grandchild
If a financially dependent child or grandchild receives RRSP or RRIF proceeds, the amount can be included in the financially dependent child’s or grandchild’s income. Depending on the value of the RRSP/RRIF, proceeds may still end up being taxed at a relatively high tax rate, even when received as income to the financially dependent child or grandchild. There are options for tax deferral, if the child or grandchild is a minor or is a person with a disability.
Another consideration with a direct beneficiary designation to a financially dependent child or grandchild is that RRSP/RRIF funds are now paid in a lump sum, outside of your estate and any testamentary trust planning intended to protect the gift will not be applicable. Further, since the beneficiary is either an individual with a disability or a minor child, there are additional considerations that should be reviewed with an estate planning lawyer.
For more information on this topic, including the definition of financial dependency, we recommend you review the “Financially dependent child or grandchild” section of ATB Wealth’s RRSP Reference Guide.
Non-qualified beneficiaries - Adult children/grandchildren as beneficiaries of RRSPs and RRIFs
Individuals may consider designating their adult, non-dependant children or grandchildren, as beneficiaries of their RRSPs or RRIFs, with the intention of making the administration of their estate easier. Or, in some cases individuals may be looking to avoid probate; which is the legal process through which the deceased’s will is validated, the legal entity of their estate is created, and the executor is granted authority to deal with the estate assets (which was originally given through their appointment in the will). However, in doing so, they can inadvertently create a host of other problems.
When a non-qualified beneficiary is named, the fair market value of the RRSP/RRIF at death will be taxable to the deceased, and any amount that represents income earned in the RRSP after the date of death will be taxable to the named beneficiary. The net result of this designation is that the full value of the RRSP will be paid directly to the named beneficiary outside of the estate; however, the tax burden for the value of the RRSP or RRIF at death will fall back on the deceased’s estate, unless a provision is otherwise provided in the will.
The following questions should be examined before designating an adult child, or other non-qualified individual as a beneficiary to an RRSP or RRIF:
- What if the estate lacks sufficient other assets to pay the tax liability associated with the deemed deregistration of the RRSP/RRIF?
While the estate is technically responsible for the tax, in cases where the Canada Revenue Agency (CRA) is not able to obtain the applicable taxes from the estate, the person who received the proceeds is considered to be jointly liable with the estate for the payment of the related tax. Although the estate does not have the authority to request payment from the designated beneficiary, the CRA does and can go after the beneficiary(ies) for taxes owing.
- What if naming adult children as beneficiaries leads to a distribution of assets that does not actually meet with the decedents' testamentary wishes?
Let's look at an example of how this can occur. In our example, the decedent is a widower and is survived by two adult children. At the time of death in 2021, the deceased had taxable income of $45,000. He also held a RRIF worth $685,000, a TFSA worth $104,000, cash and GICs worth $40,000, and a home worth $550,000. As a result of failing health, the deceased had recently completed a review of his estate. Noting the value of the RRIF was roughly equivalent to the other assets, the deceased made his son the beneficiary of his RRIF, his daughter the beneficiary of his TFSA, and left the residue of his estate to his daughter in his will.
What actually happens, however, is that:
- The fair market value of the TFSA is considered to be received tax-free by the holder immediately before death;
- The home which he resided in qualifies for the principal residence exemption;
- There were no gains realized on the cash and GICs; and
- The RRIF was deregistered and the entire amount was treated as income to the estate.
The situation described above may result in the siblings engaging in a dispute over what their father’s true testamentary intent was.
Incidentally, the estate will also not be able to avoid probate as Alberta Land Titles requires an original filed copy of the Grant of Probate or Letters of Administration from the Surrogate Court of Alberta in order to transfer a title out of the name of a sole deceased owner.
Assessing the value of your your estate now and into the future
As part of your estate planning process, we recommend you meet with your ATB Wealth advisor, as well as legal and tax advisors, to assess your current net worth, taking into consideration both your assets and liabilities. You may also wish to consider the potential tax liabilities that may arise and be payable by your estate, upon your immediate death. Understanding this will help you make sure your current beneficiary designations and your will are aligned with your testamentary wishes.
Looking forward, we know the current market values for all your assets will not remain static and even the types of assets or accounts you hold may change over time. They will be affected by: life events; market returns; your household’s yearly cash inflows and outflows; taxes; possible sales and acquisitions of assets; and even mandatory withdrawals, such as the case with RRIF accounts. Therefore, we also recommend your estate planning process include a financial plan that tracks the progression of your net worth over time. Depending on these projections, your will and beneficiary designations may need to be updated in the future.
1Source: Statistics Canada. Registered retirement savings plan contributors, Canada, provinces and territories, Retrieved from: https://www150.statcan.gc.ca/n1/daily-quotidien/210309/t001c-eng.htm
This document has been prepared by ATB Wealth. ATB Investment Management Inc., ATB Securities Inc. (Member Investment Industry Regulatory Organization of Canada and Canadian Investor Protection Fund) and ATB Insurance Advisors Inc. are wholly owned subsidiaries of ATB Financial and operate under the trade name ATB Wealth. The information provided in this article is a simplified general summary and is not intended to replace or serve as a substitute for professional advice. Professional tax and legal advice should always be obtained when dealing with taxation and legal issues as each individual’s situation is different. This information has been obtained from sources believed to be reliable but no representation or warranty, expressed or implied, is made as to their accuracy or completeness. This information is subject to change and ATB Securities Inc. (Member Investment Industry Regulatory Organization of Canada and Canadian Investor Protection Fund), ATB Investment Management Inc. and ATB Insurance Advisors Inc. reserves the right to change the information without prior notice, and does not undertake to provide updated information should a change occur. ATB Financial, ATB Investment Management Inc., ATB Securities Inc. and ATB Insurance Advisors Inc. do not accept any liability whatsoever for any losses arising from the use of this document or its contents.
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