Everyone knows that death and taxes are two of life's certainties, but some of us may not appreciate that our tax liabilities don't disappear on death and that our legal representatives become responsible for sorting out our unfinished tax business.
Some tax liabilities are expected to arise on or after death, such as those from the deemed disposition of capital assets on death and from other income inclusions that must happen in the terminal year, as well as from any provincial estate administration tax. However, our ordinary lifetime income tax compliance that should be completed on an annual basis is not something that should be left for family members and others to sort out after we die, as the repercussions can be significant.
In Canada, when a person dies, all of their estate assets vest in their legal representatives (generally, these are the executors or administrators of the estate - here referred to as "Estate Trustee") so that the Estate Trustee may administer the estate. Estate administration encompasses not just the distribution of the estate to its beneficiaries, but also the payment of liabilities of the estate, including those of the deceased that arose prior to death.
If the Estate Trustee does not discharge the liabilities of the estate before distributing the estate to the beneficiaries, the Estate Trustee can become personally liable for such unpaid amounts. Unpaid income taxes, penalties and interest of the deceased continue after death and are amounts for which the Estate Trustee can become liable. Subsection 159(1) of the Income Tax Act (ITA) expressly states that a legal representative of a taxpayer is jointly and severally liable for the taxpayer's amounts payable under the ITA.
This recently became an issue in an estate of a deceased who had failed to file annual income tax returns for close to thirty years. In that case, all of the named executors in the will refused to take on the administration of the estate not only because of the daunting tax compliance issues, but also because of the risk of personal exposure for any mistakes or omissions that could arise.
Subsection 159(2) of the ITA provides that a tax clearance certificate can be obtained from the Canada Revenue Agency when all income tax obligations of a taxpayer have been satisfied, which protects the Estate Trustee. In the case mentioned above, the prospect of a Canadian tax clearance certificate was not sufficient, because the chaos left behind carried the possibility of other, unknown, tax creditors, including those in other countries. That estate currently remains in limbo, with undistributed bequests and the outstanding liabilities accruing further interest.
In many cases, it is the deceased's children and other family members who are appointed as Estate Trustees. It is important to consider the difficult position they may be left in, as well as family members' exposure to potential liability, if there are unresolved tax issues left behind. When it comes to death and taxes, the "buck" does not stop with the deceased, but unfortunately carries on to others. In these challenging situations, professional legal and tax advice is key.
The comments offered in this article are meant to be general in nature, are limited to the law of Ontario, Canada, and are not intended to provide legal or tax advice on any individual situation. In particular, they are not intended to provide U.S. legal or tax advice. Before taking any action involving your individual situation, you should seek legal advice to ensure it is appropriate to your personal circumstances.