When someone dies, the tax issues can be complex. But inheritance itself is reasonably simple: as a general rule, Canada doesn’t have an inheritance tax. Inheritances and inherited property are non-taxable in Canada. So at the time you receive your inheritance, you don’t need to report its value on your return at all. But be warned: the fact that we don’t have an inheritance tax doesn’t mean that there are no tax consequences and nothing you need to do.
Keeping Records Can Prevent Surprises Later
If your inheritance includes assets that could grow in value before you ultimately sell them (e.g. land, buildings, stocks or shares, precious metals or stones) you need to record their fair market value as they pass into your possession.
The reason is that even though you didn’t pay an inheritance tax, you may someday have to pay capital gains tax on the asset if you decide to sell it. The value at the time of inheriting the asset will be key in calculating how much tax you owe.
Capital gains: the 30-second primer
Let’s take a moment to understand what capital gains tax is.
A capital gain is a profit you make when you sell something you’ve had in your posession or for your own use. For example, if you buy a rare sapphire and diamond ring for $50,000 and later sell it for $75,000, you’ve made a $25,000 capital gain ($75,000-50,000).
In Canada, capital gains are treated as a kind of income, and like all income, they’re taxable. That’s called the capital gains tax.
When you sell something you originally purchased, it’s easy to calculate the original fair market value: you just have to show your original receipt. (Assuming you purchased it from a stranger, and not a close friend or family member who gave you a bargain price.)
What if you paid $0?
So you may wonder what happens if you sell a ring that you inherited and paid nothing for. Does that mean that the full selling price (sale price minus $0) is taxable? In short, no.
In the case of inherited property, the ‘cost’ is considered to be the fair market value at the time you inherited it. So if the ring was worth $5,000 when you inherited it and you sell it for $5,500, the capital gain is only $500.
This is where good record keeping comes into play. By the time you’re ready to sell the asset and calculate the capital gain, it may be too late to go back and figure out what its fair market value was at the time you came to possess it.
So when you inherit any asset that could increase in value before eventually being sold, it’s important to get some kind of credible proof of its value at the time it passed into your hands. This may mean bringing in a third party.
Avoid headaches by obtaining a legally convincing estimate of fair market value (for example, a signed letter from an experienced appraiser) when you first inherit them. This is worthwhile in any event – you will probably need this figure purpose of filing the deceased person’s final tax return.
Without proof of the fair market value, you may be forced to accept the Canada Revenue Agency’s estimate of its value, which could work against you if their estimate is low.