One of the lasting gifts grandparents can leave their grandchildren is an inheritance. If used wisely, this bequest can have a significant impact on their future. Big dreams – such as a post-secondary education – can suddenly seem closer. Here are some key considerations for planning to get the most from an inheritance.
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Take care of the taxes
In Canada, beneficiaries do not pay a “death tax” or “inheritance tax” on funds they receive from an inheritance. But, there are still taxes. Certain investments of the estate are essentially considered ‘cashed out’ and the fair market value is noted as income (a capital gain) on your loved one’s final tax statement. That income is taxed and paid by the estate. What remains after taxes can be distributed to beneficiaries by the executor.
Consult a tax professional
Use a tax professional to prepare the last income tax return for your late loved one; an expert can uncover substantial tax savings that could add to an inheritance.
Save for long-term goals
What do you want for your child’s future? Set some long-term goals, such as planning for their post-secondary education. If you are the parent, use these long-term goals as the starting point for what you will invest your child’s inheritance in. That will help you figure out which investment choices make the most sense for reaching your goals.
Start small and save big
Even small amounts of money saved for your child or grandchild can grow over time. Use this compound interest calculator to see how your savings can grow.
Know your risk, comfort and time limits
It may be tempting to invest your child’s inheritance in high-risk investments for long-term growth. Before you take action, make sure your plan matches your goals. Figure out what the money is for, how much time there is before your child needs it, and what you feel comfortable investing in. Does your inheritance have sentimental significance? You may want to take less risk to protect the inheritance, or perhaps even invest the money in things that your loved one would have supported.
Change your investment style over time
If your child is young, you may be able to take on more risk to take advantage of the potential gains over a longer time horizon. However, as you approach the time when the money is needed, you may want to reduce the level of risk to minimize the chances of financial loss.
Maximize your child’s savings and investment potential
Investing your child’s inheritance inside a Registered Education Savings Plan (RESP) account can be rewarding. The Government of Canada will match annual RESP contributions by 20% or up to $500 under the Canada Education Savings Grant (CESG) program. Additional grants may be made, depending on your family income. Opening a tax-free savings account (TFSA) – either in your name or in your child’s name if he/she is 18 or older – can also increase your child’s future resources with tax-free investment growth. You can take out TFSA funds tax-free in the future to pay for special expenses (e.g., for summer camp or supporting development of a special talent).
Start teaching your kids smart money habits now
Now is the time to instill good money habits and a respect for what it took your loved one to earn and build that inheritance. Include your children in conversations about money and show them how you manage your finances – they observe and model your behaviour. Check out Make It Count that you and your kids or teens can experience together that can better prepare them for the privilege and responsibility of receiving an inheritance.
