Estate freeze strategies are a way of managing your assets to increase total wealth over time. Defined as, “the process of developing, operating, maintaining, and selling of assets in a cost-effective manner”, asset management is ever evolving. To positively enhance your capital, processes should boost the potential of assets while minimizing costs and risks.
Just as asset management strategies are designed to protect you from taxes and creditors, so too does affecting an estate freeze protect your beneficiaries.
Estate Freeze and Asset Management Strategies
An estate freeze lets you cap the value of your assets – be they shares in your qualified small business or an investment portfolio – at the current fair market value (FMV), generally for income tax purposes. Future growth of the asset is transferred to the next generation.
While there are pros and cons related to each of the freezing techniques, none is regarded as “the best”. The most appropriate structure depends on factors such as your cash-flow needs and desired rate of return, how much you value certainty over uncertainty and complexity, and multigenerational concerns. Because this article is not meant to replace qualified legal or investment advice, get personalized input from your tax advisor.
The underlying principle of an estate freeze is exchanging property with future appreciation potential for property with prospect of growth. Generally, common shares in an active business are exchanged for preferred shares of a fixed value. Exactly how you swap your common shares for preferred shares depends on the nature of the asset and the structure of your corporation.
- Gifting an asset is a form of estate freeze because there are no gift taxes in Canada. The value of the gift is frozen at the time of the donation However, attribution rules apply.
- As a business owner, your common shares can be transferred to your company on a rollover basis and sidestep any immediate tax liability. In return, you receive fixed preferred shares of the same current value. Now that the entire value of your existing company is now in the preferred shares, the next generation (G2) can subscribe for new common shares at a nominal sale price.
- An alternative option is to transfer your common stock to a holding company in exchange for preferred shares of the same existing value. Incorporating a holding company into your structure accommodates the movement of passive assets to it from the operating company on a tax deferred basis, thereby qualifying the operating company’s shares for lifetime capital gains exemption purposes. (Note: only if sold by an individual.) Not only does this help to purify the business, but it can also offer your operating company a degree of creditor protection. There are inherent risks involved in this structure, making it imperative that you consult with an experienced wealth advisor.
- Including a family trust in the implementation of your estate freeze gives you some control of the common shares in your role as (one of the) trustees of the trust. As such, you are also able to decide how the rights associated with the common shares are exercised. A family trust structure affords flexibility in identifying if, when, and who receives dividends from the common shares as well as who receives the family trust’s common shares in the end. Although it requires increased reporting and accounting, a family trust is highly recommended in an estate freeze.
- While popular in the U.S., estate freezes using limited partnerships and defective grantor trusts are not typical in Canada.
Additional options can be incorporated to ensure that your estate freeze offers the flexibility and growth you need in a fluid environment. Contact your Nour Private Wealth (NPW) advisor to talk you through estate freeze strategies that are most suitable for you.
This commentary is provided for general informational purposes only and does not constitute financial, investment, tax, legal, or accounting advice. Please speak with your accountant about tax or accounting advice. Individual circumstances and current events are critical to sound investment planning and not all investments are suitable. Please speak with your investment advisor prior to investing.