All About Estates

The Time of Your Life (Interest)

I was recently asked about the tax implications of creating a life interest in real property.

When I use the term “life interest” in this context I am not referring to a typical scenario in which a property is transferred to trustees and held in a trust, the terms of which provide a beneficiary, often referred to as the lifetime beneficiary, with the exclusive use and enjoyment of the property during his or her lifetime, and provide for a distribution of the property among a class of remainder beneficiaries when the lifetime beneficiary dies. As with any property held in a trust, legal title to the property is held in the name of the trustees.

Rather, I am using the term “life interest” in the sense of a life estate in real property, which is a property interest that is registered on title in the name of the life tenant, distinct from the remainder interest (which is also registered on title). The life tenant has the exclusive right to use and occupy the property during his or her lifetime. When the life tenant dies, the life interest is extinguished, such that the holder of the remainder interest becomes the sole owner of the entire beneficial interest.

How is a life interest treated under the Income Tax Act (“ITA”)?[1]

Let’s assume that Mrs. Homeowner is the sole owner of a residential property. Mrs. Homeowner decides to change the ownership of her property such that she holds a life interest in the property and her two children hold the remainder interest. When this transaction occurs, there is an actual disposition of the remainder interest in the property by Mrs. Homeowner at fair market value (which becomes the children’s adjusted cost base in the remainder interest). In addition, Mrs. Homeowner is deemed to have disposed of her life interest at fair market value (which becomes her adjusted cost base in the life interest). The result is that any unrealized capital gains in the entire property are realized when the life interest is created. If the property qualifies as Mrs. Homeowner’s principal residence, she can use the principal residence exemption to reduce or eliminate the gain, to the extent it is available.

When Mrs. Homeowner dies, her life interest is extinguished. For tax purposes, Mrs. Homeowner is deemed to have disposed of her life interest at cost, such that she will not realize a further gain as a consequence of her death in respect of the life interest. Mrs. Homeowner’s death does not result in a deemed realization of the remainder interest, since she does not own it. However, since the owners of the remainder interest in this example are Mrs. Homeowner’s children (i.e. they do not deal with her at arm’s length), the adjusted cost base of Mrs. Homeowner’s life interest is added to the adjusted cost base of the children’s remainder interest.[2]

The creation of a life interest in real property is not a common estate planning tool in Ontario, and the above example illustrates one reason why that is the case. Let’s assume that Mrs. Homeowner was able to fully eliminate the gain that was realized when she created the life interest by using her principal residence exemption. Mrs. Homeowner continues to reside in the home on her own until her death five years later. The property continues to steadily appreciate in value up to the time Mrs. Homeowner’s children sell the property, which is one year following her death.

If Mrs. Homeowner had remained the sole owner of the property up to the date of her death, the entire gain up to the year of her death could have been fully eliminated using Mrs. Homeowner’s principal residence exemption. However, since Mrs. Homeowner’s children have never resided in the home, it does not qualify as their principal residence. The result is that when they sell the property, their adjusted cost base is the fair market value from six years earlier when the life interest was created, and not the fair market value of the property when Mrs. Homeowner died just one year earlier.

This is not to say that life interests in real property do not have a place in estate planning. As with any tool, whether or not it is useful will always depend on the particular facts of the case. However, the tax implications must always be carefully considered, particularly where the property at issue may be a principal residence.



[1]       The key section of the ITA is s. 43.1. For further details, please see Canada Revenue Agency Technical Interpretations 2005-0155601E5, 2007-0242921E5, and 2008-0278801C6.

[2]       The addition to the adjusted cost base may be reduced where the fair market value of the property has declined. The relevant provision is subsection 43.1(2) of the ITA.

About Darren Lund
Darren Lund is a member of the Trust, Wills, Estates and Charities at Fasken, Toronto office. Darren has expertise in a broad range of estate planning matters, including multiple wills, inter vivos trusts, disability planning, estate freezing, and planning for beneficiaries and assets outside Canada. Darren advises trustees and beneficiaries on all aspects of estate administration, both contentious and non-contentious, and his experience includes passing of fiduciary accounts, trust variations, post-mortem tax planning, and administering the Canadian estates of non-residents. He also speaks and writes on a variety of related topics such as estate planning for spouses and couples, inheriting overseas property and estate planning for persons with disabilities. He previously practised estates law at a large national law firm. Email:


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