I have a secret test for estate or tax preparation professionals who state they are well versed in the intricacies of estate administration and terminal tax returns: I ask how many optional tax returns they have administered, prepared and filed. If I get a confused look, I clarify: How do they deal with post-death income receipts? Alternatively, I ask if they have ever prepared a rights or things tax return.
Nestled within the landscape of tax documents associated with an estate and death of a taxpayer lie often overlooked gems: optional tax returns. Three types of optional T1 tax returns can be filed in addition to the deceased’s terminal tax return. These are returns for:
- rights or things;
- a partner or proprietor; and
- income from a graduated rate estate (GRE).
It is not a requirement that the optional tax returns be filed, but the optional returns may reduce or eliminate tax that would otherwise have to be paid, given that certain personal tax credits can be claimed, including the basic personal, age, spouse or common-law partner, eligible dependant, and caregiver amounts.
Additionally, the optional returns allow access to graduated tax rates, which can reduce the deceased taxpayer’s overall tax liability. As each optional return is taxed as a separate person, the lowest marginal tax rates may be used more than once.
Optional return for rights or things
The eligible income associated with a rights or things tax return is income that was earned but not received by the taxpayer before they died. Examples include the following:
- employment income for a pay period prior to the date of death but paid after that date (for example, salaries, vacation pay, commissions);
- old age security benefits that were due and payable before the date of death;
- CPP and employment insurance arrears;
- bond interest earned up to a payment date before death but not paid and not reported in prior years; and
- dividends declared prior to the date of death but paid after the date of death.
Income not eligible for a rights or things tax return includes:
- periodic interest from a bank account;
- RRSP income; and
- bond interest accumulated between the last interest payment date before the taxpayer died and the date of death.
If the legal representative of the estate chooses to file a rights or things optional tax return, they must report all rights and things on the return except those transferred to beneficiaries.
Example of rights or things optional return
Sarah was travelling for work and suddenly passed away on April 3. On April 19, Sarah’s estate received her vacation pay, which she earned up to her date of death. The amount was substantial (over $25,000) given that she had not taken vacation in over two years. The vacation pay income the estate received can be reported on either Sarah’s terminal return or the optional return for rights or things.
The filing due date for the latter return is the later of 90 days after the CRA sends the notice of assessment or reassessment of the terminal tax return or one year after the date of death.
Optional return for a partner or proprietor
If the deceased taxpayer carried on business as a partner or sole proprietor, any business income earned between the last fiscal period of the business and the date of death (“stub period”) can be claimed under a separate optional return.
Example of a partner or proprietor optional return
José was a partner in an architectural firm and, due to an onsite accident, passed away on June 8, 2023. The partnership’s last fiscal year-end was March 31, 2023. The legal representative of José’s estate has the option to report the partnership income from April 1, 2023, to June 8, 2023, on José’s terminal tax return. Alternatively, the representative can elect to report this partnership income on the optional return for a partner or proprietor.
Optional return for income from a GRE
If the deceased taxpayer received income from a GRE and the fiscal year of the GRE is not a calendar year, the legal representative of the deceased taxpayer can elect to report on a separate return the income received from the GRE that relates to the period between the taxation year of the GRE and the date of death.
Example of income from a GRE optional return
Leanne receives income from her deceased father’s GRE, which has a fiscal year-end of Jan. 31, 2024. Her father died in 2022. Leanne tragically died on March 11, 2024. Leanne’s legal representative can elect to include the income from the GRE for the period of Feb. 1, 2024, to March 11, 2024, on her terminal tax return or on the optional return for income from a GRE.
Filing due dates
The filing dates for optional returns (excluding the rights or things return) depend on the date of death. If the death took place between Jan. 1 to Oct. 31, the filing due date is April 30 of the year following the year of death (or June 15 if the deceased was self-employed). If the death took place in November or December, the filing due date is six months after the date of death.
There are certain amounts that can be split between the terminal tax return and the optional returns:
- adoption expenses;
- disability amount for the deceased;
- disability amount transferred from a dependant;
- interest paid on student loans;
- tuition, education and textbook amounts;
- tuition transferred from a child;
- charitable donations that are not more than the net income from that return;
- medical expenses; and
- home buyers’ amount and home accessibility expenses.
When you split an amount, the total of the claims cannot be more than what would have been allowed if only the terminal return were filed.
By understanding the nuances of optional tax returns, advisors can optimize tax strategies and help minimize taxation on death. This awareness not only enhances quality of service but also helps deliver optimal outcomes for clients’ financial well-being.
Michael Kulbak, MBA, CPA, CMA, TEP, is principal of Kulbak Trust Solutions in Mississauga, Ont.