For 75 years, the baby boom generation has had an outsized effect on Canadian life. Entire suburbs were built to house their families. Scores of elementary, secondary, and post-secondary schools were built to educate them. And right on schedule, retirement communities and residences are popping up all over to house them in their senior years.
Now, another big impact is on its way. It’s called the Great Wealth Transfer. That’s the handover by inheritance of about one trillion dollars from Canadian boomers to their Gen X and millennial children. Why so much money? Partly because there are so many boomers. But also, because boomers – unlike their children – were by accident of history positioned to do well in the job and real estate markets.
If you foresee receiving such an inheritance – or any inheritance – it’s best to be prepared. Here are five things to find out up front, then five suggestions for using your inheritance.
1. How large might your inheritance be?
To start, let’s assume at least one of your parents is still living. Ideally, they have been open with you about their financial situation. You might even have seen their will. (And a wave of the hand accompanied by, “One day, this will all be yours,” doesn’t count.) If not, try to find out whether they even have a will, and if you will be their executor. It’s tricky: You don’t want to look like a circling vulture. But if you’re in line for a substantial legacy, you need to be prepared. Remember that they don’t have to appear rich to leave a legacy. In fact, some boomers leading quiet, middle-class lives are living in houses alone worth well over a million dollars. Broadly speaking, the bigger the inheritance, the better you need to be prepared.
2. What does your inheritance look like?
It could be cash in the bank or money in a tax-free savings account (TFSA). It might be funds in a registered retirement savings plan (RRSP). It could be the balance in a registered retirement income fund (RRIF).
Your inheritance might include non-registered assets, like stocks, bonds, and mutual funds. You could inherit the family home or cottage. Your parents might leave you a valuable coin collection, diamond jewellery or even a classic car. You could also be the beneficiary on their life insurance policies. If any of your inheritance isn’t cash, you’ll need to decide whether to keep or liquidate it.
That will depend on several factors. For example, your parents may have left you and your brother their house. Neither of you wants it. Or both of you want it. Or you want it but don’t have the cash to buy out your brother’s share. At any rate, the answer may be to sell it and split the proceeds. Here’s where an advisor, a realtor, a tax lawyer or accountant, and even an expert appraiser can be helpful.
3. Do you have to pay tax on your inheritance?
When your first parent dies, the assets transferred to the surviving spouse are tax-sheltered (meaning they don’t pay any tax). When your second parent dies, however, it’s different. There may be capital gains tax owing on the increase in value of your parent’s assets up to the date of his or her death.
If you’ve had a house or cottage in the family for, say, 40 years, that little bungalow or lakeside cabin could conceivably be worth 10 times what your parents paid for it. That means the estate could be on the hook for a hefty tax bill. Assuming you and your siblings don’t have that kind of spare cash, where will the money come from?
It’s also important to note that any Registered Retirement Savings Plans are considered taxable income the year of death. Many people who expect to leave a substantial legacy buy a life insurance policy expressly to cover the tax bill. The tax-free death benefit can pay for the funeral, any taxes owing and any outstanding debts. Otherwise, you may have to liquidate assets to raise the needed funds.
4. Is the inheritance split evenly among you and your siblings?
Often, people leave equal shares of their estates to their children. But not always. There can be bad blood between parent and child. Or your parent may believe – rightly or wrongly – that one child needs money more than the others. Ideally, you and your siblings agree with the terms of your parent’s will. If, however, you disagree for reasons of fairness or need, you may need to call in a lawyer. But if you feel a sibling needs the money more than you do, you can make a gift of it after the estate is settled.
5. What do you do with the money while you’re deciding what to do with it?
If you’re the executor, you can open a high-interest savings account. You will have to file a tax return for your parent’s estate for the year in which they died. Keep the estate account open until the estate is settled, the final tax return filed and a clearance certificateissued.
What do you do with your inheritance?
This part is a lot simpler. Some suggestions:
1. Pay off high-interest debts
First, clear your credit card balances. Then, pay off debt-consolidation and other loans, and zero your line of credit balance.
2. Pay off your mortgage
If you’re carrying a big mortgage – even at a low interest rate – an inheritance could help you pay that off. If you’re already close to paying it off, though, you might be better off investing the money. Run the numbers with your advisor to find out.
3. Look after your kids
If your children haven’t finished their education yet, you can use some of the money to help pay for tuition and living expenses. If they’ve already graduated, you can help them pay off their student loans. You can also help them with the down payment on their first home.
4. Save for your own retirement
That means putting the maximum in your RRSP and TFSA, and wisely investing anything left over. That way, you’ll help ensure you have a comfortable retirement – and an inheritance to leave to your own children.
5. Use some of the money for something appropriate in honour of your parents
If you can spare a bit after dealing with debts and savings, get creative. If your parents were big on social responsibility, donate to their favourite charity. If they pushed you to get an education, create a small scholarship in their name. Or, if they loved to socialize with their children and grandchildren, simply throw a family party and raise a glass to their memory:
“Here’s to Mom and Dad – and thanks!”
Talk to an advisor
If you’re inheriting money from your parents, an advisor can help. Book a meeting with an advisor.