Do I Need a Family Trust?

Trust, Green Plant on money

by Lisa Collins, QC, TEP | April 15, 2015

“Do I need a family trust?” A business owner recently asked me that question in an initial meeting. My response was, “That depends”. I was not trying to be evasive. It is just that whether a business family should use a family trust depends upon their financial circumstances and the family situation, and of course, what is important to them.

A family trust is one of the great “tools of the trade”. It is not a solution or plan in itself. However, as part of an over all plan a family trust can be a great facilitator, playing a critical role in helping a family:

  • minimize tax
  • transition the ownership of a business or other wealth to the next generation; and
  • protect their family wealth.

No two cases are the same. After reviewing the situation in detail and weighing the pros and cons, a family I have been working with recently has decided that they will not go ahead with the family trust at this time. They are younger and they are not yet ready (psychologically or otherwise) for the transition to the next generation. They also don’t have an appetite for the complexity of a family trust at this time. (There is still a restructuring to be done to correct a tax problem; it just won’t include a family trust.) They intend to revisit the decision regarding the family trust in two years.

In another case, the family has put in place two family trusts in a structure involving a number of corporations and businesses. In that case, the spouse is a beneficiary of one of the trusts but not the other. This was necessary to avoid a technical tax problem, but still be a position to dividend business profits to the spouse (taking advantage of her lower tax brackets).

Here are some of the reasons you might want to use a family trust:

  • You want to cap the taxes you will have to pay on your shares of your business on your death, but you are not sure yet which family members should be new shareholders. This is accomplished by “freezing” your interest and having a family trust own new common shares. (You can also be a beneficiary of the trust so that if you want to keep open the option of getting the shares yourself some day, you can!)
  • You want to be able to pay dividends to family members to provide them with financial support and use their lower tax brackets, but you are not ready for them to directly own shares of your business. You could use a family trust to flow dividends to them. (Now we are at tax time, you might be experiencing some of that pain of financially supporting young adult family members with your after tax dollars!)
  • You want to be able to park excess profits of the business in another corporation, without paying the shareholder level of tax, but yet preserve your $800,000+ capital gains exemption for your shares of the business. A family trust with a corporate beneficiary can facilitate this. (This is preferable to the situation where the holding corporation directly owns shares of the operating corporation.)
  • A sale of the business is possible some day and you want to have the opportunity to multiply the capital gains exemption (using other family members’ exemption, via a family trust).
  • You want to protect the shares or other property by having the trust own it and having trustees who will manage and look after it for family members.

So back to the question: “Do I need a family trust?” In many cases it is a great tool that will play an important role in a business family’s planning. Let’s talk!

Stay tuned for a future article: “I have a Family Trust, Now What?” It will explore how to make sure your family trust is still working for you and remind you about some important milestones.

All In One Basket

by Lisa Collins, QC, TEP | April 1, 2015

You have probably heard the advice “don’t put all of your eggs in one basket”.

We see a lot of businesses that suffer from the eggs in one basket syndrome. Like the phrase suggests, this can result in greater risk and cost them in the long run.

For families in business, this can describe a couple of situations. One is that all of the family’s wealth is tied up in their business and they have not diversified some of their wealth away from the business (in a tax efficient way). Another is where most of the family’s assets, including assets not directly used in the business, are owned by the corporation that also owns and operates the business.

It is not unusual to see a situation where a business structure has not changed from when it was first set up, after 10, 20 or even 30 years or more in business. The business has grown and evolved over the years, additional assets have been acquired, circumstances have changed and the wealth has grown. Notwithstanding, no one has paid much attention to whether the business structure and ownership still makes sense for the business and the family.

A common situation is where commercial real estate, investments and/or cash (excess to working capital requirements) have been acquired or left to accumulate in the operating company. They are all in the same basket as the business.

Here are some of the ramifications:

  • Those non-business assets are exposed to the risks of the business. Should the business suffer a financial downturn or failure, those assets could be lost to the creditors of the business.
  • The shareholders may not be able to use the capital gains exemption, with a potential tax cost to each of them of $170,000 or more. The capital gains exemption is only available for shares of a corporation that uses 90% of its assets in carrying on an active business. The non-business assets could throw that offside.
  • The business owner may have plans to some day sell the business but retain the commercial real estate where the business is carried on and lease it to the business. That is difficult to do when the business and the real estate are owned by the same entity. It won’t happen without potentially significant tax cost.
  • Estate planning can be challenging with this inflexible structure. In many cases the founders intend that the business be left to certain family members (who take an active role in the business) and leave the non-business assets to other family members. This is almost impossible to do (at least in a tax efficient way) when everything is in one basket.
  • Where a family has more than one business, the succession of those businesses to the next generation can be more complicated if they are held in one corporation. Having them owned in separate corporations can provide greater flexibility as to future management and ownership among family members.

It is important for a business family to make sure that their business and corporate structure continues to make sense and takes advantage of opportunities. It involves a careful review of the current situation and structure, taking into account the family’s objectives.

Things can be restructured, and often in a very tax efficient way. In a recent case, we were able to move the commercial real estate, investments and excess cash to a new “wealth accumulation company” for the patriarch of a family business, without triggering tax on the assets. What’s more, the structure will allow him to move the excess profits of the business into his wealth accumulation company on a regular basis very efficiently. He now has the opportunity to better protect those assets and further diversify his wealth away from the business by pursuing other investments. He also has greater flexibility in his estate plan, accommodating his desire to ultimately leave the business to one of his children and equalize things with his other children using his wealth accumulation company.

Note that any possible restructuring involving the next generation becomes much more complex and more expensive (costs and taxes) if both of the parents are no longer in control of the corporation. Therefore, it is very important that the business structure be reviewed regularly and certainly before mom and dad have given up control (whether intentionally or as a result of their death).

Privacy Please!

by Lisa Collins, QC, TEP | April 1, 2015Top secret! - Young businessman with finger on his lips

For families in business, one of their major concerns is maintaining privacy about their business and financial affairs. It is to be respected and guarded at all times.

Imagine their surprise when they find out that when they die, their Will becomes a public document when it is probated. Anyone can search the Registry and not only see the deceased person’s Will but find out about their assets and liabilities, including their values.

Fortunately, there are strategies to help maintain privacy for families’ financial affairs on death. It involves the use of a trust and/or using multiple Wills.

In the case of the trust, assets are transferred to and held in a special kind of trust that is set up during a person’s lifetime so that when they die, the assets do not form part of their estate. Therefore, they are not required to be reported in any probate process. The trust remains a private document.

In the case of multiple Wills, this strategy takes advantage of the fact that it is not necessary to probate a Will for the Will to be valid. It is just that in order to transfer certain assets, such as real estate and investments, probate is required by the Land Titles Office or by the financial institution. It is possible to have one Will that deals with the assets that require probate (such as real estate) and another Will that deals with the other assets, such as shares in a private company, that do not require probate in order to be transferred. Only the first Will is submitted for probate and it only deals with the limited list of assets (and not the private company interests).

There are added benefits to these strategies. One is that they can greatly reduce probate fees (in provinces where they apply). I am currently working with a family where the private business interests have been transferred to a special kind of trust. Because these private business interests are very valuable, the projected probate savings are over $650,000.

These strategies can also make dealing with a person’s estate more efficient and straightforward.

So yes privacy is a major concern for private business owners. But in ensuring their privacy they can take advantage of other benefits and savings!