In married or common-law partnerships, using a spousal rollover1 has become a conventional strategy for many estate plans. Under a spousal rollover, any associated capital gains on certain capital property or registered plan income that transfers to a surviving spouse will be deferred until the spouse disposes of, or is deemed to have disposed of, those assets or withdraws them (in the case of registered plans).
However, in some cases, there may be reasons why it may not make sense. Why? While deferring tax is often beneficial, it can also result in unintended consequences. Take, for example, a situation in which a surviving spouse rolls their deceased spouse’s Registered Retirement Income Fund (RRIF) to their own RRIF. This increases their RRIF minimum annual withdrawal requirements. The higher income results in a higher marginal rate of taxation, and the spouse is now subject to the Old Age Security clawback.
Some forward planning could have potentially reduced the overall tax-related burden. For instance, it may have been better for the deceased spouse to bleed down their RRIF in the years in which they had a lower marginal tax rate. Or, it may have made sense for the RRIF to be partially converted to cash upon death, with only a portion transferred to the surviving spouse’s RRIF.
Electing to Not Use the Spousal Rollover
Be aware that an automatic rollover of capital property occurs, for tax purposes, upon the death of the first spouse. As such, an election will need to be made to not use the spousal rollover on a property-by-property basis. Here are some other situations in which electing to not use the spousal rollover may make sense:
- The deceased’s marginal tax rate is low on the date-of-death return.
- The deceased has capital losses carried forward from previous years that can be used to offset realized capital gains.
- The deceased owns qualified small business corporation shares with unrealized capital gains or an unused lifetime capital gains exemption.
- The deceased has property with an accrued loss, which may be used to offset accrued capital gains on other properties.
Having flexibility in tax planning by using — or not using — the spousal rollover may have its benefits. Seek the advice of a tax-planning expert as you plan ahead for your particular situation.
- For tax purposes, a person is generally deemed to have disposed of capital property at fair market value immediately before death. While there may not have been an actual sale, there may be associated gains or losses realized for tax purposes. Unless a rollover is available, the fair market value of a registered plan is included in the deceased’s income in the year of death. A spousal rollover is available where such property is transferred to a surviving spouse/common-law partner.