Vacation properties can save your family’s vacation costs and may even be an excellent investment if you intend to rent it our when you’re not using it. As the market for vacation properties has increased over the past several years, the values may have grown significantly.
Whether you intend to keep the property and pass it along to the next generation or sell it in the future, be mindful of the tax on capital gains. Although there are many strategies available to reduce or defer the tax on the transfer of a family cottage, the two most common are the use of life insurance and through the use of a trust.
Life Insurance And The Tax Bill
When you pass away, you are considered to have sold all of your personal property at its fair market value immediately before death. If there is a gain on your vacation property, one-half of this gain will be included on your final tax return.
You can reduce your estate’s exposure to this tax liability on death through the purchase of a life insurance policy on the owner of the property. If the property is held jointly or with a spouse, commonly this policy would be a join last-to-die policy.
Given the age of the owner and the desire of the beneficiaries to receive the property following death, your children may be willing to pay the premiums on the life insurance policy.
Using A Trust
Transferring the property to a trust can help avoid the deemed sale of the cottage on death. If the property is not transferred to the appropriate type of trust, a deemed sale may be triggered when the cottage is transferred to the trust and the capital gains tax would be due for the current tax year. However, if there is little accrued gains on the property it may make sense to transfer it now.
Be aware that a trust is limited to a 21-year duration, after which the property in the trust is considered sold and that taxes must paid at that time. Alternatively, the property may be taken out of the trust by the beneficiaries at the original cost base wit out triggering tax.
Other possibilities exist and carry with them consequences and risks. If you are planning for your family cottage, you should seek the help of an estate lawyer.