How to reduce an oversized tax bill after being paid as an executor

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Being an executor isn’t exactly an honour. Depending on the size and complexity of the estate, it can take months or even years to deal with the seemingly endless paperwork and administration that comes with the job. Then, if you’re receiving an executor fee, there’s a tax on your work.

The Canada Revenue Agency (CRA) taxes executor fees, which often range between 3 and 5 per cent of the estate’s value, as employment income, subject to the executor’s marginal tax rate. The estate, as the employer, withholds and remits income tax and Canada Pension Plan (CPP) contributions based on the gross fees the executor receives as compensation. The executor is also issued a T4 slip for the year in which the fees are paid.

Given the size of estates today, especially with soaring property values in cities such as Toronto and Vancouver, executor fees can significantly bump a person’s income and tax owning in the year it’s paid.

For example, on a $1-million estate in which fees are 5 per cent – or $50,000 – an executor can likely be pushed into a higher tax bracket. For older Canadians, the executor fees could also result in a clawback or elimination of their Old Age Security (OAS) benefits.

Aaron Gillespie, partner in enterprise tax at KPMG in Canada in Hamilton Ont., says he’s seeing more executor fees being charged, given the growing size and entanglements in estates these days, which can involve various assets and family members across provinces and countries.

“Executors should certainly think about how that additional employment income will impact their tax situation,” he says.

How to limit the tax hit

Executors may be able to limit their tax liability with some planning, says Michael Erez, vice president and director at Odlum Brown Financial Services Ltd. in Vancouver.

One option could be contributing to a registered retirement savings account (RRSP) if the executor has contribution room to help offset the taxes from the executor fees.

Donating to a registered charity and receiving a charitable tax credit is another way to reduce the tax hit from executor fees, Mr. Erez says.

“If you were going to make charitable donations over several years, maybe you just decide to accelerate that and make a larger charitable contribution now,” he says.

It could be possible for an executor to spread their fee over a couple of tax years, but Mr. Erez notes that it requires a lot of administration, including approvals from beneficiaries. As a result, he says the savings may not be worth the additional time and effort.

Mr. Erez points to an example of an individual executor living in British Columbia, who works at a job paying $80,000 a year, has a tax bill of about $14,300 and a marginal tax rate of 28.2 per cent.

If the same individual is an executor handling a $3-million estate and getting a 3 per cent executor fee, or $90,000, they would pay an additional $33,300 in taxes, based on the additional income being taxed at marginal rates of up to 43.7 per cent.

In the same example, if the fee was spread over two years and the executor’s regular employment income was unchanged, the additional taxes over the two years would be about $29,900 based on the additional income being taxed at marginal rates of up to 38.3 per cent. It’s a difference of about $3,400.

“You need to consider whether the amount of taxes saved is really worth waiting a whole year,” he says.

Seniors who receive executor fees also risk having their OAS clawed back if the amount puts their income over the annual threshold, which is $86,912 for 2023. Mr. Erez says a senior would have to report about $142,000 in net income in 2023 to lose all of their OAS. He notes full OAS benefits for someone who starts collecting it at age 65 is currently $691 a month, or $8,292 a year.

“You need to put it into perspective,” he says. “If you’re getting an executor fee that’s significantly higher than $8,000, you may not lose sleep over losing your OAS that year.”

Executors and beneficiaries

Executors don’t have to take compensation for their services, notes Akua Carmichael, an independent wills and estates lawyer in Toronto. In some situations, she says they may be named as a beneficiary and receive a gift from the estate tax-free as beneficiaries generally don’t pay taxes on the gifts they receive.

“However, the language in the will matters,” Ms. Carmichael says.

For example, if the will indicates that the executor is receiving a gift in lieu of payment for helping to manage the estate, the CRA could view the gift as executor compensation, which would then require the executor to pay taxes on the amount. Ms. Carmichael says a gift in a will to an executor is presumed to be made in lieu of executor compensation.

However, she adds that the presumption could be overcome with a “gift over” clause, which transfers the gift to another person such as the executor’s spouse or child if the executor passes away before the testator.

“This clause suggests the gift wasn’t given solely for the services provided as an executor,” she says. “It makes for a stronger argument that the amount was a gift.”

Ms. Carmichael says another issue to be aware of with making the executor a beneficiary is that they could still claim executor compensation. However, it would be subject to income tax.

Planning for the extra income

Janine Guenther, president of Vancouver-based Dixon Mitchell Investment Counsel, says advisors can help testators structure their wills to lessen the tax burden for executors.

“I like to help clients plan for this eventuality by being very frank with their executors ahead of time as to the size of the estate and the compensation they should expect to receive,” she says.

For example, if a testator is close to dying or has a terminal illness, Ms. Guenther says they might want to give their executor a financial gift before they die. They could then have the executor take a smaller or no fee.

“There’s a lot you can do before the estate falls in,” she says. “The more you plan and communicate with your executor, the fewer surprises there will be.”

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