Segregated Funds and Estate Planning
Last week I tweeted an article from Advisor.ca on Seg Funds for Estate Planning: Advantages and Pitfalls, which discusses the benefits of using segregated funds as part of estate planning and notes some areas that may lead to issues. Segregated funds are a type of investment fund available through life insurance companies, where the funds are kept “segregated” from the general assets of the company. They have an advantage in estate planning in that, as an insurance product, the beneficiary is named on the plan itself, and thus, provided that the estate has not been named as beneficiary, the proceeds pass outside of the estate, avoiding probate fees.
One possible benefit of segregated funds, as noted by the article, is protection from creditors. Because the segregated fund passes directly to the beneficiary, it is not an estate asset, and is not available to satisfy creditors’ claims. However, it is noted that the creditor protection may be lost in certain circumstances, including if it was purchased at a time when the investor knew that he or she may be subject to a creditor claim.
When considering a segregated fund as a way to minimize probate fees, it is important to consider additional fees associated with such funds. Segregated funds usually have a higher management expense ratio (MER) than mutual funds. If the amount that would be saved in probate fees is less than the MER, the segregated fund may not result in any net savings.
Lastly it is important to be aware of any beneficiary designations in a will that may create possible conflicts with the designated beneficiary of the segregated fund. Pursuant to s. 51 of the Succession Law Reform Act, R.S.O. 1990, c. S.26, a beneficiary designation can be made either by an instrument or by will, as long as the will designation refers expressly to a plan. Section 52(2) provides that a later designation revokes an earlier designation. Therefore if a will is executed after the beneficiary of the segregated fund is designated, and makes a designation that differs from that in the fund, the designation in the will revokes the designation in the fund.
The article provides the example of Orpin v Littlechild, 2011 ONSC 7695. In that case, the testator had a segregated fund held in an RRSP which designated his sons as beneficiaries. Following this designation, the testator executed a new will which designated his spouse “as the sole beneficiary of all moneys that I may have at the date of my death in any registered retirement savings plan, registered retirement income fund, registered pension plan, registered investment fund or any other similar device”. The court then had to decide to whom the fund would pass. Despite the fact that the will did not specifically refer to the insurance policy, the broad language used in the will was sufficient to change the designation of the segregated fund.
There are other similar products to segregated funds, such as life insurance policies which can have similar benefits and effects. However, it is important to be familiar with a variety of options in order to properly advise clients on what strategy may work best for them.
Thanks for reading.