Keeping a cottage in the family

The summer cottaging season is coming to an end. With extra time on your hands, you may want to ponder what would happen to your vacation property if something were to happen to you.

Cottages are generally subject to capital gains tax when sold or when the owner dies. This means half the increase in value since you bought it (starting in 1972), less certain expenses like legal costs and cottage improvements, will be taxed as much as 46%. If you have owned your cottage for a long time, the estate tax could be considerable - possibly hundreds of thousands of dollars. If you plan to leave the cottage to your children, they might have to sell the property just to pay the tax - defeating your dream of keeping the cottage in the family.

So what can you do?

• Consider buying enough life insurance to cover the tax. If your cottage is jointly owned with your spouse, you could buy a policy that pays out when the second of you dies. In our practice, we have found that adult children who stand to inherit the family cottage may be willing to pay the insurance premiums on their parents' behalf.
• Another possible strategy is to designate the cottage, instead of your city home, as your "principal residence." This way, the capital gain on the cottage would be tax-free. Obviously, this would only make sense if the cottage had the bigger capital gain of the two. The good news is you don't have to decide which property is your principal residence until one is sold. Our office can provide tax advice on this approach.
• There are other strategies for dealing with the potential tax hit on a cottage during your lifetime. As an example, you could gradually transfer ownership to your kids by gifting or selling a portion of the property to them each year. This would make the capital gains tax more manageable.

Give us a call to review your overall estate plan and discuss various options to help ensure your cottage legacy unfolds as you hope.