Hi Sean, I recently came into a lump sum from my relative that is deceased. Do I have to pay taxes on the inheritance? How does it work? – Bob

Dear Bob,

It’s true that when someone receives an inheritance the money they receive is tax free. However, that’s not to say the estate of your relative was tax free.

There are two types of tax when someone passes, estate administration tax (probate) and income tax. When someone passes away, all assets that don’t have a named beneficiary or are jointly held with rights of survivor are frozen. The executor(s) typically then retain the services of a lawyer to prepare an application to receive a “Certificate of Appointment of Estate Trustee.” This is just a fancy way of saying the executor(s) now have the authority to manage the estate assets. Of course, the government doesn’t do this for free and requires $0 on the first $50,000 of assets, and 1.5% thereafter, in Ontario, plus legal fees.

The second type of estate tax is income tax. When someone passes away, all of their assets are deemed sold for tax purposes as of that date. Regardless of whether you actually sell the property or investments which can generate a significant tax liability. Any income, such as the CPP death benefit that is received after death, is typically taxed on a T3 Trust return.

Once all tax filings have been completed, it’s a good idea for the executors to receive a Clearance Certificate from CRA that everything is in order before making a final distribution to beneficiaries. This is because executors are liable for any taxes that aren’t paid, but were prematurely dispersed to beneficiaries.

To reiterate, yes the money you received is tax free, but that’s because the taxes have already been paid!