An executor, as the legal representative of the estate, is required to obtain a clearance certificate before distributing property that they control. Where the executor fails to obtain a clearance certificate, they are liable for any unpaid amounts in respect of any property distributed.
Some will argue that not every estate needs a tax clearance certificate, but a recent court case highlights the kind of trouble an executor can get into when a clearance certificate is not obtained.
In Muth Estate 2019 ABQB 922, the executor retained an accountant to prepare the final income tax return for the estate and to estimate its tax liability. That accountant apparently advised on an appropriate holdback, enough to cover the estimated tax liability. The executor then distributed the balance of the estate to herself and the other beneficiaries according to the terms of the will (which had been the subject of some previous litigation leading a mediated settlement on terms).
The first accountant, however, did not file the required return. When a second accountant was retained to do so the following year, he determined that the holdback was inadequate.
A tax clearance certificate was never sought.
The executor paid the difference, together with the second accountant’s invoice, and sought reimbursement from the beneficiaries of their proportionate share of the deficiency (but notably waited a year to do so). Eventually, the executor went to Court to seek judgment on a claim for indemnity from the other beneficiaries for the income tax liability of the estate, as way of getting reimbursed for the deficiency.
The beneficiaries took the position that, pursuant to the Income Tax Act (“the Act”), only the executor is liable for unpaid taxes.
The Act requires that a personal representative obtain a clearance certificate before distribution of an estate and imposes personal liability for the tax liability of the estate on those who do not do so.
The beneficiaries referred to several cases in which the relevant section of the Act was used to impose personal liability on the executor but none of them, in the court’s opinion dealt with whether an executor is entitled to indemnity from the beneficiaries.
Nevertheless, the Court noted, Parliament could have chosen to make all beneficiaries of the estate liable as well but chose not to do so. On public policy grounds that is sensible, the Court further wrote – the beneficiaries have no control over when or how much is distributed.
The Court further noted that, presumably for similar reasons, Parliament chose not to deal with whether a legal representative could seek indemnity from beneficiaries. There may be situations where that would be equitable, but certainly there would be other situations where that would be inequitable.
Therefore, the Court felt there was some support in the Act for the beneficiaries’ position that only the personal representative is personally liable and therefore they are not, but the Court did not find it determinative. Parliament was concerned with imposing a duty on executors to ensure the payment of tax and a consequence for not doing so but did not take the next step of allocating responsibility among beneficiaries for an executor’s breach of that duty.
For the above reasons and reference to certain principles of trust, the Court concluded that the beneficiaries were under no obligation to indemnify the executor for any income tax or penalties imposed on the executor as a result of her failure to obtain a clearance certificate before distributing the estate.
As a final note, this is a bit of cautionary tale for the pros as well. One of the accountants, or both should have recommended a tax clearance certificate be filed, albeit the advice given might have been ignored.