Principal Issues: (a) Where an estate is insolvent, does the Crown have priority over other creditors in relation to an outstanding tax liability of the deceased? (b) Where an estate is insolvent, and a bank has distributed the proceeds of a RRIF to the designated beneficiary, what is the liability of the legal representative in relation to any existing tax liability as well as to any taxes due on the RRIF? (c) Is the executor of an estate entitled to use estate assets to defray expenses, in particular, in order for the legal representative to object to income tax assessments?
Position: See below
Reasons: Legislation
QUESTION #20 - INSOLVENT ESTATES
1. Where an estate is insolvent, does the Crown have priority over other creditors in relation to an outstanding tax liability of the deceased?
2. Where an estate is insolvent, and a bank has distributed the proceeds of a RRIF to the designated beneficiary, what is the liability of the legal representative in relation to any existing tax liability as well as to any taxes due on the RRIF?
3. Is the executor of an estate entitled to use estate assets to defray expenses, in particular, in order for the legal representative to object to income tax assessments?
CRA Response
1. The Crown prerogative requires the executor of an estate to pay an income tax debt ahead of other debts of the estate, or alternatively, to provide security for the debt. It should be noted however, that the Crown prerogative is not absolute. For instance, where a creditor has a security interest in the estate property, then such interest would prevail over the Crown's claim.
In the event that an estate does not have the capacity to pay all of its creditors in full, assigning the estate into bankruptcy presents an alternative solution, in which case the Crown's claim to priority over other creditors would cease, and the proceeds of disposition would be distributed rateably in accordance with the scheme of distribution set out in the Bankruptcy and Insolvency Act.
It should be noted that trustees in bankruptcy are expressly excluded from the operation of subsections 159(2) and (3).
2. In relation to the registered retirement income fund ("RRIF"), where the last annuitant under a RRIF dies, the annuitant is deemed to have received, immediately before death, an amount under the fund equal to the fair market value of the property of the fund at the time of the death, pursuant to subsection 143.6(6). The amount is included in computing the income of the annuitant for income tax purposes by operation of subsection 146.3(5).
Where a taxpayer receives a benefit under a RRIF, as a consequence of the death of the annuitant, subsection 160.2(2) provides that the taxpayer is jointly and severally liable with the annuitant for the income tax attributable to the amount received. Where more than one taxpayer receives a benefit under a RRIF, then such taxpayers are jointly and severally liable to pay a portion of the annuitant's tax that is attributable to the amount received by the taxpayers.
In any event, the personal liability of a legal representative for a deceased's unpaid tax liability is limited to the value of the property over which the legal representative had possession of control and that he or she distributed.
3. Subsection 159(3) of the Act provides that where a clearance certificate under subsection 159(2) has not been obtained, the legal representative of a taxpayer is personally liable for the payment of amounts owing by a taxpayer under the Act to the extent of the value of the assets distributed. In short, an estate is required to pay any tax liability before assets can be distributed. However, allowance can be made for the payment of reasonable funeral, testamentary and administration costs.
The decision as to whether or not to dispute the assessments should be made objectively. As such, this would rule out any person who stands to profit or gain from the outcome. Accordingly, there are three options available to the estate, namely:
- The estate could make an assignment into bankruptcy, in which case the trustee in bankruptcy would make the decision as to whether an objection or appeal should be pursued;
- The executor could personally fund the services of an accountant and in the event that there is a decrease in tax payable, consideration could be given to permitting the fees to be paid out of the assets of the estate; or
- The executor could use estate assets to fund the services of an accountant, but would do so at the risk of being held liable under subsection 159(3).
There are positive and negative aspects to each of these options which will require consideration from the legal representative.
Katharine Skulski
2011-042910
June 3, 2011