What Is a Specified Beneficiary in Canada?

In Canadian tax and estate planning, certain designations allow for preferential tax treatment of assets transferred after death. For registered retirement plans, the designation is a “qualified beneficiary.” This status facilitates the tax-deferred transfer of a Registered Retirement Savings Plan (RRSP) or a Registered Retirement Income Fund (RRIF). A related concept is a “specified beneficiary,” a term used in other contexts within the Income Tax Act, such as for certain types of trusts. The purpose of these designations is to provide financial continuity and alleviate immediate tax burdens for those financially connected to the deceased.

Qualified Beneficiaries for Registered Plans

To be a qualified beneficiary for a registered plan rollover, an individual must fall into a specific category defined by the Income Tax Act. These individuals are also referred to as “qualifying survivors.” The most common qualified beneficiary is the deceased person’s surviving spouse or common-law partner. This allows for a transition of registered assets to support the surviving partner without triggering an immediate tax liability for the deceased’s estate.

The second category involves a child or grandchild of the deceased who was financially dependent on them at the time of death. If the dependency is due to a physical or mental infirmity, the rollover rules are more flexible. For a child or grandchild who was dependent for other reasons, they may still be a qualified beneficiary, but the rollover options are more limited.

The concept of “financially dependent” is a question of fact, but the Canada Revenue Agency (CRA) provides guidance. If the child or grandchild’s income in the year prior to the deceased’s death was below the basic personal amount, they are considered financially dependent. However, a case for dependency can be made if their income exceeds this threshold and reliance on the deceased for financial support can be substantiated.

The term “physical or mental infirmity” is not narrowly defined and does not require the individual to qualify for the Disability Tax Credit, although having this credit is strong evidence. This provision allows children or grandchildren with disabilities to continue receiving financial support without immediate tax consequences upon the provider’s death.

Tax Treatment of Rollovers

The advantage of being a qualified beneficiary is the ability to receive assets from the deceased on a tax-deferred basis through a “rollover.” This mechanism applies to the proceeds of an RRSP or a RRIF. Without this designation, the fair market value of an RRSP or RRIF is included as income on the deceased’s final tax return. This can result in a tax liability, as the entire value is taxed at the deceased’s marginal tax rate in the year of death.

When a qualified beneficiary, such as a surviving spouse, inherits these funds, the tax is deferred. The assets can be rolled over into the spouse’s own RRSP or RRIF. The funds continue to grow tax-sheltered, and tax is only paid when the surviving spouse begins to withdraw money from their account. This preserves the capital within the retirement plan and allows the spouse to manage the tax implications.

For a financially dependent child or grandchild with an infirmity, a similar rollover is possible. The proceeds can be transferred to their own RRSP or used to purchase an annuity. In specific circumstances where the child or grandchild was financially dependent due to that infirmity, the proceeds can also be transferred to their Registered Disability Savings Plan (RDSP). This differs from the outcome for a non-qualifying beneficiary, where the estate must first pay tax on the full value of the RRSP or RRIF before distribution.

Role of a Beneficiary in Testamentary Trusts

Beneficiary designations also play a role in testamentary trusts, which are trusts created by a will that come into effect upon an individual’s death. One rule affecting trusts in Canada is the 21-year deemed disposition rule. This rule states that most trusts are deemed to have sold and reacquired their capital property at fair market value every 21 years, triggering tax on any accrued capital gains.

A spousal or common-law partner trust can defer this 21-year rule. For this to occur, the surviving spouse or partner must be the sole beneficiary entitled to receive all the income from the trust during their lifetime. No other person can have access to the trust’s income or capital while the surviving spouse is alive.

Under these conditions, the deemed disposition of the trust’s assets is postponed until the death of the surviving spouse or partner. This allows assets within the trust, such as a family cottage or an investment portfolio, to grow on a tax-deferred basis for the lifetime of the surviving spouse. This deferral provides planning opportunities, preserving the value of the estate. If the trust continues after the spouse passes away, the 21-year rule will then apply, with the first 21-year period starting from the date of the spouse’s death.