Deemed dispositions on death
In Canadian income tax law, a taxpayer is deemed to dispose of all of their assets on the date of death.
This means that a homeowner is deemed to have disposed of their ownership share of any house on the date that they die. This applies to jointly owned houses, as well as all other properties, whether jointly held or not.
Reporting the deemed disposition on death
Regardless of what the estate does with the property later, there is always a deemed disposition of the deceased’s ownership of the house on their death. This deemed disposition must be reported in the terminal return of the deceased (the T1 for the last period up to the date of death).
This deemed disposition of the house, even if it was jointly owned, must always be reported for income tax purposes on the deceased’s tax return.
Often, no income tax is payable by the deceased or their estate, but it is very important to make the right filings at the right time.
Spousal rollovers
As a general rule, it is possible to transfer any property owned by the deceased on their death to their ‘spouse’ without triggering income taxes.
A roll-over is is available regardless of the type of property – it does not have to be real property, does not have to be a house, does not have to be a principal residence, and does not have to have been ‘jointly owned’. Most assets, including investments and savings can qualify.
(Note, the recipient must be the spouse of the deceased at time of death, as defined in the Income Tax Act. The definition of a ‘spouse’ in Canadian income tax law is different from the definition of a spouse for family law, estate law, and pension law purposes. It includes common law spouses.)
If there is a roll-over, the surviving spouse acquires the deceased’s share at the deceased’s cost. What this means for jointly owned assets is that the deceased disposes of ‘their share’ and the surviving spouse acquires ‘the share of the deceased’.
Formally, this is known as a ‘spousal roll-over’: the asset is deemed to have been disposed of by the deceased for their ‘adjusted cost base’ and acquired by their spouse at this value. It is ‘rolled over’ at the original cost. As a result, there is no taxable capital gain on the deceased’s share of the property on their disposition of their share.
Spousal roll-overs are about tax deferral and are not about tax avoidance – ultimately, taxes will be payable when the surviving spouse disposes of the property, calculated using the gain in value between their initial adjusted cost and the value at disposition.
A roll-over must be disclosed and claimed on the terminal return of the deceased. A roll-over affects the ‘proceeds of disposition’ for the property disclosed on Schedule 3 of the T1 (again, setting the proceeds of disposition equal to the adjusted cost base, for no taxable gain).
It is very important for the surviving spouse that the deceased’s return is filed properly, as this will affect the surviving spouse’s adjust cost base for the property and thus the taxes payable by them (or their estate) when they ultimately dispose of the property.
Note that it is possible to opt out of a roll-over, which on occasion may be advantageous for tax purposes. This is why proper estate tax filings require complete assessment of the circustances of the deceased, the estate, and the beneficiaries (including the surviving spouse).
Calculating the proceeds of disposition
Unless there is a ‘roll-over’, the proceeds of disposition for each property on death are set at fair market value. Fair market value is not the ‘MCAP property tax’ value, or a sweetheart deal for a family member – it is the price that an informed third party would pay. Fair market value should be documented via an opinion in writing from a realtor or appraisal.
A casual ‘letter of value’ is likely not sufficient documentation.
Note: the need for proper documentation of value is extremely relevant if the property is transferred to a family member who was not the spouse of the deceased.
Claiming the principal residence exemption
If the property (house or cottage) qualifies as a principal residence of the deceased for some or all of the years it was owned, it is possible to claim that the gain in value in the property is ‘exempt’ from tax.
The principal residence exemption (the “PRE“) must be claimed by filing Form T1255 with the deceased’s terminal return even if a spousal roll-over is also claimed.
Simplified, the gain in value in a principal residence musty be declared on the tax return for the year of disposition, and then a claim must be filed that this gain is exempt from taxation.
Note that the disposition must be declared and the exemption claimed. It is not sufficient to just ignore the sale of a residence.
When claiming the principal residence exemption in the deceased’s terminal return, it is very important to consider factors such as –
- whether the deceased or any related person has claimed the PRE before for prior years for this or any other property.
- Whether the deceased owns any other property (such as a cottage) (alone or jointly) that might qualify for the PRE.
‘joint tenant with a right of survivorship’: differences between estate law and tax law.
When the first spouse dies, in tax law terms there is a disposition by the deceased, and that disposition must be reported. Taxes are payable, unless there is a spousal roll-over or the gains on the property are exempt gains on a principal residence of the deceased.
In contrast, in real estate law, there is no disposition. The first spouse to die effectively ‘drops off title’ and the surviving spouse is then left as the sole owner. For real estate law purposes there is no ‘transfer’ or ‘disposition’ of title – just one owner is removed from title, and the survivor(s) remain on title. No land transfer tax is payable.
Learn more about the consequences of this joint ownership for estate law purposes, and why this is not the case when the surviving joint tenant was an adult child of the deceased here.
Tax issues for the surviving spouse later
Aafter the death of the first-to-die joint owner, title to the property then belongs solely to the surviving spouse
If the surviving spouse later adds someone else to title as a joint owner, this is a disposition for tax purposes and must be reported.
It is not wise for the surviving spouse to simply add one of their adult children without very careful planning, documentation, and tax reporting.
If the property was a principal residence, the surviving owner must file Form 2019 if the use of the property changes (that is, it is no longer a principal residence).
Regardless of whether or not the property was a principal residence, the surviving spouse must declare their disposition of the property (by making it joint with somoene else, like a child, upon sale, or via deemed disposition upon their death). So, if a property is rolled over from the first-to-die to the surviving spouse, the surviving spouse must declare gains equal to the difference between the adjusted cost base for the entire property and the proceeds of disposition for the entire property.
Any of these gains that are not shelted by the PRE are taxable as capital gains for the surviving spouse.
If the property was a principal residence of the surviving spouse, then the surviving spouse (or their estate) can claim the PRE (for some or all years they held ownership, as the facts warrant) when they dispose of the property. Claiming the PRE shelters some or all of the surviving spouse’s gains on the house from income taxes.
Note that the result is that the PRE should be claimed twice – for the first spouse to die, and then for the second spouse – even if the property was jointly owned, and even if it was rolled over to the surviving spouse.
Tax filings for jointly owned houses are very frequently mismanaged. Get help from an experienced professional to ensure that they are done correctly.