Lifestyle | Giving the chalet to one son without penalizing the other

For parents, the issue of inheritance is often delicate when it comes to sharing assets between several children. This is the case for Sylvie* and her partner, who want to give their chalet to one of their sons and give the other an equivalent amount of money. All this without compromising their retirement income.

The situation

Sylvie and her partner are looking for a fair and financially strategic way to give their cottage to their son Simon during their lifetime. However, the two newly retired 64-year-olds do not want this decision to compromise their retirement income. The couple is wondering if it would be strategic to sell the cottage to Simon for the symbolic sum of $1. “Since we paid $50,000 for our cottage in 1998 and the municipal assessment is now $270,000, we know that we will have to pay tax on the capital gains,” says Sylvie. “We are considering asking Simon to pay this bill so as not to penalize our retirement income.”

The couple also wants to give an equivalent amount to Frédérick, who does not want to receive the cottage. A counsellor suggested a scenario that would involve selling their house in 2040, when they would be 80 years old, which would allow them to give Frédérick a gift of $273,000.

Sylvie and her partner wonder if this is the best strategy for their family.

The advice

Many families experience this type of situation and for them, choosing how to pass on their assets is not so simple, notes Mylène Lapointe, financial planner and mutual fund representative at PEAK Investment Services. “There is never a perfect solution, but there are some that are more interesting and fair than others,” she says.

Correctly calculating the tax payable on capital gains

The first thing that needs to be clarified for Sylvie and her family is how to calculate the tax payable on the capital gain of the cottage. “It can be dangerous to use the municipal assessment amount because it is often very far from the market value,” Mylène Lapointe points out. “So I will use the market assessment amount, which is $325,000, instead of the municipal assessment amount.”

If the couple sells the cottage for $325,000, even though they paid $50,000 for it, the capital gain will be $275,000. Half is taxable, so the sum of $137,500 will be divided between Sylvie and her spouse. This will add $68,750 to each person’s annual income. With a marginal tax rate of 36%, they will each have to pay $24,750 in tax. The tax bill will therefore be $49,500 and they will have $275,500 left over from the sale of their cottage.

Avoid the $1 sale

One thing is certain in the eyes of the financial planner: the option of selling the cottage for $1 to Simon must be eliminated. Why? “Because it creates double taxation,” says Mylène Lapointe.

First, the parents would have to pay the $49,500 in taxes because the cottage would be deemed to have been sold at its fair market value. But that’s not all. When Simon sold the cottage, he would be deemed to have paid $1 for it and the capital gain would be calculated based on that amount. “So the capital gain would be huge,” says Mylène Lapointe. “It’s really not a good strategy.”

The couple could, however, donate the cottage. “The donation is made at fair market value, so the parents would have to pay capital gains tax and later, when the son sells the cottage, the capital gain will be calculated based on the fair market value when he received it, which was $325,000,” explains the financial planner.

So, if Simon pays the tax bill of $49,500, he would end up receiving a gift of $275,500.

A high cost of renunciation for Frederick

With the councilor’s proposal, Simon could benefit from his parents’ gift right away, and also see the cottage increase in value every year. However, Frederick would find himself with nothing for about fifteen years.

To illustrate, let’s say the couple sells the cottage at its fair market value, pays the capital gains tax and divides the remaining amount between the two children. This would mean that Simon and Frédérick would each receive $137,750. Let’s say Frédérick invests this amount and has a return of 5% per year, that would give him $291,163 in 15 years. “If his parents wait before giving him his share, Frédérick will therefore find himself paying a huge opportunity price,” notes the financial planner.

Sell ​​the cottage at its fair market value

To be fair, the parents should consider an avenue that would ensure that Frédérick would have his share of the money when the chalet is transferred to his brother, according to Mylène Lapointe.

“I don’t know Simon’s financial situation, but if he can get a mortgage for the cottage, I would tend to recommend that option,” she says.

Since he would receive a gift of $137,750 from his parents, he could use it for the down payment on the cottage, so his mortgage would be $187,250. With an interest rate of 5%, over a 25-year amortization period, that would give him monthly payments of $1,089.

Give more while you are alive

While Simon’s mortgage on the cottage may seem high to the parents, they might also consider giving more to their children during their lifetime.

“Sylvie and her partner would benefit from consulting a financial planner with whom they would share all the details of their situation, but with the figures they provided me, I calculated that until they sell their house at age 80, they will have $72,000 net per year to live on, while they say they need $60,000,” explains Mylène Lapointe. If their estimate is correct, they therefore have $12,000 surplus each year.”

The financial planner points out that they could decide to give up to $6,000 each year to each of their children to help them with their projects, such as paying off their mortgages, without compromising their lifestyle.

“While there is no perfect solution,” she said, “they still have some great, fair options in front of them.”

* Although the case highlighted in this section is real, the first names used are fictitious.