transitioning wealth for the boomer generation

FROSTIAK & LESLIE Chartered Accountants Inc.

Transitioning Wealth For The Boomer Generation

LARRY H. FROSTIAK, FCA, CFP, TEP

October 18, 2007

Presented to: ADVOCIS


Key Concepts

•  Understanding business and wealth transitions. What and why is it important?

•  Stewardship •  Why is this timely? •  How are you to benefit? •  What is the process?


Stewardship

•  2 part process – Performance – delivery of results – Communication and Relationship Building

– Stewardship embodies integrity, expertise and experience, wrapped in a trusting business relationship


Be Pro Active

•  Contact clients 3 – 4 times a year •  Must be a process for feedback •  Network with client’s accountant •  Deal with matters promptly and follow-up

to ensure the matter is dealt with satisfactorily

•  Plan to do meetings with clients as a team to identify planning opportunities


Understanding Business And Wealth Transitions

•  Where are your clients at? AGE? Business cycle? Health?

•  Are they talking about selling or “retiring”? •  What do they own? Regularly update their

financial snapshot. (Business interest, real estate… not just their financial portfolio)

•  Identify issues with your client •  Be prepared to suggest or recommend trusted

experts who can assist with tax and estate planning. This will make you look good!


Why Is This Timely?

•  Age demographic – 1/3 of population consists of the “Boomers”.

•  Many Boomers have accumulated significant wealth and they are poised to inherit from their 80-something parents (the “savers”).

•  Boomers are more sophisticated and are seeking expert advice.


How Do You Benefit?

•  Benefit from the boomers who are “cashing in” and looking to re-invest (hopefully with you)

•  Boomers will be transitioning or selling businesses, or their homes, or they will be inheriting money which will need to be invested

•  Those IA’s that are proactive and interested will surely benefit from this transitional tide of wealth!


What Is The Process?

•  Identify your clients that deserve your special attention

•  Be proactive / get to know their financial affairs •  Network with the accountant •  Set up team meetings to review their finances and

identify planning issues •  Be a resource and make referrals to give your

client access to the best advice


Key Wealth Components

•  The Business

•  Financial Wealth

•  Vacation Property


Businesses – What Do I Need To Know?

•  Business Owners – Ways they can sell out – Basic tax issues – How to realize true value in the business


Business Owners

•  Sale of shares – Accessing the $750,000 Lifetime Capital Gains

Exemption – Multiplying CGE with family members – Earnouts / pitfalls! – Share for share exchange / pitfalls! – Capital gain rollover provisions – Non compete


Sale Of Assets

•  Corporate tax implications •  Potential for “double tax” •  Hybrid Solution •  Non-compete


Hybrid Solution

•  Solving the asset vs. share dilemma! •  Ideal solution for sale of business with

–  Intellectual property (IP) – Goodwill (intangibles)


Hybrid Solution

Example

X Y

OpCo

Purchaser Corp.

FMV $3.0 Million ASSET Customer list

(goodwill) Wants to sell shares!

Wants to buy assets!


Hybrid Solution

OPCO NEWCO

X Y

FMV = $1.5 million 100%

Note payable 1.5 million

Sale of goodwill – proceeds = $3.0 million


Hybrid Solution

OPCO

X Y

1.5 million cash Repays $1.5 million of loan to OPCO

Purchaser Corp.

($1.5 million shares) Loan $1.5 million

CASH $1.5 million

NEWCO


Hybrid Solution (in $000’s)

OPCO

X Y

Capital dividend 1,093,000

Taxable income $3.0 million x ½ =

$1,500

Corp Tax 400 @ 20% = 1,100 @ 37% =

80

407

(487)

$1,093

Proceeds to vendors

Sale of NEWCO shares CDA – OPCO

$1,500 1,093

$2,593


Hybrid Solution ($000’s) Sale of Shares Sale of Assets Hybrid Solution

Corporation

Proceeds - 3,000 1,500

Tax - (487) (487)

- 2,513 1,093

Dividend - (2,513) (1,093)

- 0 0

Personal Proceeds 3,000 0 1,500

Dividend – CDA 0 1,500 1,093

- taxable 0 1,013 -

3,000 2,513 2,593

Tax (345) (333) -

2,655 2,180 2,593


Business Owners Basic Tax Issues

•  TIMING THE EFFECTIVE SALE DATE •  Deemed year end on “acquisition of control •  Association issues – related corporations •  Alternative minimum tax •  Problem in accessing CGE

– Cumulative Net Investment Loss (CNIL) – Allowable Business Investment Losses (ABIL) – Do the shares qualify?


Realizing True Value

•  Intangible Assets – Customer lists – Goodwill –  Intellectual property – Contracts in force

•  Industry Norms and earnings multiplier •  Removing redundant assets


Financial Wealth What Do I Need To Know?

•  Wealth transfer strategies – Estate freeze – Use of family trust –  Identifying tax hurdles – Funding liquidity on death /

life insurance – Will planning – Charitable / legacy gifts


The Estate Freeze

•  Reorganization under Section 86 •  Introduction of personal inter vivos trust as

new shareholder •  Shift future growth and income to the

benefit of the trust


The Estate Freeze

Parents

OPCO

-  Child 1

-  Child 2

$1.5 Million current FMV Freeze shares $1.5 million

Common (growth) shares

FACTS: 86(1) estate freeze when OPCO = $1.5 million

Current value of OPCO at $3.0 million

EXAMPLE Family Trust


The Estate Freeze TAX IMPLICATIONS

$ millions WITH NO FREEZE

WITH FREEZE

Proceeds $3.0 3.0

CGE

Parents (1.5) (1.5)

Children - (1.5)

Capital gains (net) 1.5 0

Tax thereon @ 23.2% $348K 0


Financial Wealth

•  Holding Companies – Benefits form income-splitting – Consolidating assets / control – Optimizing tax / accessing

RDTOH


The Holding Company Freeze

Father/ Mother

Children

Portfolio Investment $2,000,000

100% common (growth) shares

$ 1,000,000 of voting preferred freeze shares 1,000,000 of debt $ 2,000,000

Holding Company

Inter vivos Trust


The Holding Company Freeze (Income splitting of property income)

FACTS:

•  Holding company earns $100 K of property income annually (assumes 5% pre-tax return)

•  Adult Children (in University) require funds for schooling, travel and other lifestyle enhancements NO

FREEZE WITH HOLDCO

FREEZE

Property income $100,000 $100,000

Corporate taxes Part I taxes @ 50.79% - (50,790)

RDTOH recovered - 24,605

100,000 73,815

Personal taxes (46,400) (4,800)

Tax paid personal Cash $53,600 $69,015

Tax saved $15,415


Financial Wealth

•  Trusts –  Inter vivos gifts – Testamentary trust / graduated rates – Capital gains and income splitting


Trust As A Flow-Through Or Conduit

•  Trust income retains character in hands of beneficiary

•  Attributes relating to such income “flow-through” to the beneficiary

•  Trust income retains character when taxed within trust



OPCO

Beneficiaries

Dividends

Dividends Family Trust


Trust As A Flow-Through OPCO level

Taxable Income from ABI $100,000

Corporate Tax (17,120)

82,880

Dividend 82,880

Retained Earnings 0

Taxable Dividend 82,880

Tax Thereon @ 36.75% (30,458)

Net Retained $52,422

TRUST LEVEL AND BENEFICIARIES

#1 #2 #3

Dividend 27,627 27,627 27,627

Gross-up 6,906 6,906 6,906

Taxable Income 34,533 34,533 34,533

Tax Thereon 3,969 3,969 3,969

Fed DTC (4,604) (4,604) (4,604)

0 0 0

Prov Tax 2,994 2,994 2,994

Prov DTC (1,267) (1,267) (1,267)

1,727 1,727 1,727

Total taxes 1,727 1,727 1,727

Net Retained Net Aggregate 25,900 25,900 25,900

Retained $77,700 NET ANNUAL TAX ADVANTAGE

$25,278



Retaining Income within the Trust

OPCO

OPCO

Shareholder

Dividend Dividend

OPCO LEVEL TRUST LEVEL

Trust


OPCO LEVEL

Taxable income $100,000

Corporate Tax (17,120)

82,880

Dividend (82,880)

Retained Earnings 0

Taxable Dividend 82,880

Tax Thereon @ 36.75% (30,458)

Net Retained $52,422

TRUST LEVEL

Manitoba Resident

Trust

Alberta Resident

Trust Dividend 82,880 82,880

Tax Thereon (30,458) (20,894)

52,422 61,986

Tax Differential 9,564 Percentage 9.564%



•  Testamentary trust is an ideal “tool” for estate planning –  taxed at graduated rates –  trust can have a year-end other than December 31

which can permit for a considerable degree of tax planning

–  ability to designate income as being taxable to the trust, even though paid to the beneficiaries

–  no income attribution

–  income – splitting / multiple trusts

Trusts Used For Testamentary And Will Planning


Estate

FACTS: The testator makes provision in the Will instrument for the creation of 3 separate testamentary trusts, one for each of his 3 adult children who happen to be a Neuro-Surgeon, a Dentist and a Plastic Surgeon. On death, each trust is settled with $500,000.

Testamentary Trust 1



Trusts Used For Testamentary And Will Planning


NO WILL PLANNING USING TESTAMENTARY TRUSTS

Child 1 Child 2

Child 3

Child 1

Child 2 Child 3

Income from inheritance 500,000 @ 5%

25,000 25,000

25,000

25,000

25,000

25,000

Tax Thereon (11,600) (11,600) (11,600) (6,725) (6,725) (6,725)

13,400 13,400 13,400 18,275 18,275 18,275

EXAMPLE:

Trusts Used For Testamentary And Will Planning (cont’d)


•  Trust provides vehicle to transfer “beneficial wealth” to children, grandchildren while maintaining capital management through “prudent trusteeship”.

•  Rule against perpetuities abolished in Manitoba, thereby permitting indefinite wealth accumulation

Wealth Preservation


•  Distinction between beneficial and legal ownership

•  Discretionary Inter vivos Trust provides only a contingent interest to a beneficiary

•  Use of alter ego, joint spousal or joint common-law partner trusts

Creditor – Proofing/Confidentiality


Vacation Property What Do I Need To Know?

•  Ownership issues and strategies – U.S. property – estate taxes – Principal residence exemption – Structuring ownership for U.S. property – Property in Mexico – What if the client is renting out the property?


U.S. Property And Estate Taxes

•  U.S. situs property subject to an estate tax •  Only a percentage of unified tax credit will

apply, based on worldwide assets •  Closer connection issues – deemed

residency? IRS Form 8840


Principal Residence Exemption (PRE)

•  Only 1 PRE for married or common-law partners

•  U.S. situs property can qualify •  Potential for capital gains tax on one

property


Structuring Ownership For U.S. Property

•  Holding companies problematic for Canadian tax purposes – taxable benefits

•  Consider inter vivos trust •  Why?

– No taxable benefits – Flow-through PRE to beneficiary – Rollout property at cost – No U.S. estate taxes


What If The Client Is Renting Out Of The Property

•  Foreign non-business income to report on Canadian return

•  Will CRA audit if claiming significant losses? •  Withholding taxes on gross rents received •  Filing of foreign returns? (i.e. U.S. 1040NR

for U.S. rental income) •  Foreign tax credits to claim in Canada


Transitioning Wealth For The Boomer Generation

Larry H. Frostiak, FCA, CFP, TEP

Frostiak & Leslie Chartered Accountants Inc.200-1700 Corydon Avenue

Winnipeg, ManitobaR3N 0K1

www.cafinancialgroup.com(204) 487-4449


Thank-you!

transitioning wealth for the boomer generation

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