Estate Planning - the Finer Points: Special Issues for Those with Special Needs

Children with special needs raise special issues. If you have such children, a proper estate plan will help to ensure their financial well being, and that of your entire family. There are four important issues in completing your estate plan: equality or equity; liquidity, trust, and flexibility. Unfortunately, however, the special needs tax system is very complex and there remain gaps between federal and provincial systems.

Equality or equity

If you have more than one child, the issue of how to treat all of the children must be addressed first. Will they be treated equally, or will they be treated equitably? In making decisions, it is important to familiarize yourself with the tax and benefit systems, both federal and provincial.

The tax systems deal with special needs children differently from other children. Important credits may be available to supporting parents. Most importantly, the balance of the RRSPs or RRIFs, which are usually fully taxed on the death of the last parent, may in some cases be transferred to the special needs child without tax. This can be of enormous benefit. For example, if a deceased single mother had $200,000 in RRSPs, the tax payable on her death would be about $100,000. If the special needs child is the ultimate recipient of the RRSPs, the $100,000 in tax can be deferred, and possibly saved outright, if the special needs child has no other taxable income. These funds may be structured in a "lifetime benefit trust" in the case of mental infirmity, for the exclusive benefit of the child during his or her lifetime.

The Income Tax Act's more restrictive definition of "mental and physical impairment" must be met to qualify for some of these important benefits. The impairment(s) must be severe and prolonged. The effects of the condition, or the cumulative effect of the conditions, must be such that the ability of the individual to perform a basic activity of daily living is markedly restricted. The recent federal budget expands the category to include individuals who would otherwise meet the requirement but for therapy that is administered at least 3 times per week for a total period averaging not less than 14 hours per week. A certificate from a physician or other qualified professional is required. However, in other cases such as the RRSP rollover above, a less rigid test of dependency due to physical or mental infirmity suffices.

The financial needs of the special needs child must be assessed carefully. Will the inheritance be enjoyed? Will it make a difference to that child's quality of life? The Ontario Disability Support Plan Act (ODSP) and other similar provincial plans may provide for an ongoing monthly pension. An inheritance can affect the benefits. Present simplified rules for bequests of less than $100,000 allow the beneficiary to receive $5,000 per year in addition to approved disability expenditures, over and above the monthly pension, from a trust funded by the inheritance. However, any inheritance greater than $100,000 will directly reduce the pension. Funds that are left in reserve in purely discretionary trusts will not reduce the pension until applied to the benefit of the person. This rule was settled by an Ontario Court of Appeal decision called "Henson," and such trusts are commonly referred to as Henson Trusts. Unfortunately, there is some uncertainly as to whether a lifetime benefit trust receiving an RRSP balance will qualify as a Henson Trust for ODSP purposes.

Funding the estate plan

After you have determined the present and future financial needs of your challenged beneficiary, and decided what your estate objectives are amongst all of your children, next you need to determine the means and liquidity of the estate. While considering this issue, it is important to consider the expenses and income taxes payable on the settlement of your estate. This is not an exact science. Tax rates can change. Tax rules can change. It is thus prudent to be conservative with your estimates. Ask yourself: Am I leaving a sufficient estate to meet my objectives for my special needs child and the rest of my family? At this time, you might consider establishing a savings plan or purchasing life insurance.

The Registered Disability Savings Plan (RDSP) is a new option for individuals who qualify for the disability tax credit. RDSPs are tax-sheltered savings plans. The lifetime maximum contribution for each child is $200,000 and can be made until the year in which a beneficiary turns 59. RDSPs are eligible to receive both Canada Disability Savings Grants and Canada Disability Savings Bonds until the end of the year in which the beneficiary turns 49. The principal amount is not deductible, but the accrued income is taxable in the hands of the beneficiary when withdrawn. Unfortunately, the effect an RDSP will have on ODSP pensions has not been determined. There is similar ambiguity in other provinces. Until this effect is clarified, use of RDSPs generally is not advisable.

Flexibility

No estate plan, no matter how comprehensive, can ever include all variables that might occur over time, both before and after your death. Therefore, the most important aspect of your plan is that it be flexible. The value and nature of your assets might fluctuate. Your special needs child might or might not qualify for special tax status at the time of your death. Government assistance to challenged beneficiaries might waver.  Your children's needs are not static. Your estate plan must make good sense if you die tomorrow, but it must also endure the test of time.

Trust

During the estate planning process you will be required to name a trustee to administer your affairs upon your death. You are entrusting this person with the obligation to ensure that your estate plan unfolds as it was intended. A good estate plan will permit the trustee to adjust your plan to accommodate circumstances as they arise. Who will you name? Is one person sufficient, or do you wish to name more? Is a professional or trust company appropriate?

Conclusion

Families with special needs children face many challenges. A proper estate plan can help to provide financial security and peace of mind for the present and the future. Quality tax and legal advice are critical for any proper estate plan. Contact your Collins Barrow advisor for help.

Guy Desmarais is a tax partner in the Sudbury office of Collins Barrow.