An executor is entitled to receive compensation from the estate for his or her efforts in the administration of the estate. A testator may fix the rate of compensation in the will. If the will does not specify the rate of compensation, the general guideline from the courts is that the executor would be entitled to approximately 5% of the value of the estate. If there are long running trusts or the estate is especially complicated, the executor may be entitled to an additional annual amount equal to 2/5 of 1% of the average annual market value of the capital of the estate. The factors which the court considers in determining the appropriateness of the compensation include the size of the estate, the care and responsibility required to administer the estate, the time involved in administering the estate, the skill and ability shown by the executor, and the success resulting from the administration of the estate.
Compensation is Taxable
Any compensation received by an executor or trustee is taxable either as income from employment or income from an office.
If the executor is a professional, for instance a trust company or a law firm, the income earned by the executor is treated as income from an office and is subject to HST. The executor would be entitled to deduct its proper business expenses from such income.
For non-professional executors, such as relatives or friends of the deceased, the income is treated as income from employment. In such cases, the estate is the “employer” and is required to file a T4 and make the applicable payroll deductions, including CPP. As a side note, for accounting purposes the portion of the CPP payment which is payable by the employee is deducted from the executor’s compensation, however, the portion of the CPP payment payable by the employer is deducted from the assets of the estate.
Gifts in Lieu of Compensation
There may be situations where an executor is left a gift in the will that is instead of (“in lieu of”) or in addition to the executor compensation. This distinction is important for a couple of reasons. First, the nature of the gift will determine if the amount is taxable. Second, the executor may benefit twice from the estate, which may not be the intention of the testator.
Gifts left to a beneficiary under the will are generally not taxable. Accordingly, if a person is named the executor of the estate and is also the sole beneficiary, he or she would be better off not charging any compensation and accepting the full amount tax-free as the beneficiary of the estate.
There is a presumption that if a legacy or bequest made to an executor in the will, that gift is made in lieu of the executor’s compensation. This presumption can be relatively easily rebutted by looking at the language of the gift in the will or the construction of the will as a whole. For example, the presumption may be rebutted if a gift was left to John Smith with a giftover to John’s wife. The gift was meant to benefit John or his wife, regardless of whether or not John acted as trustee, therefore it is in addition to compensation. If the presumption is rebutted, the gift to the executor is not taxable as income to the executor. However, this wording allows John to charge the estate an addition amount as compensation, in which case such additional amount will be taxable as income.
Wording such as, “$10,000 to John Smith for his time and effort” would not rebut the presumption since it implies that the gift is being made in exchange for John’s services. If the presumption is not rebutted, the fair market value of the gift must be included as income to the executor and will be taxable.
Gifts by Other Beneficiaries in Lieu of Compensation
An executor is not required to take compensation. As noted above, where the executor is the sole beneficiary it would be better for the executor not to the take any compensation. If, however, there are multiple beneficiaries, the executor would be better off taking such compensation even though it is being taxed.
The executor cannot avoid paying tax on the compensation by having the other beneficiaries “gift” an amount equivalent to the compensation to the executor. Consider for example a situation where the estate was worth $100,000 and there are 2 beneficiaries, one of which is the executor. The executor would be entitled to compensation in the amount of $5,000 and each beneficiary would be entitled to receive $47,500. If the executor waives the compensation, each beneficiary would be entitled to $50,000. If the non-executor beneficiary were to gift the executor $2,500 to assist him or her to avoid taxation on claimed compensation, the CRA’s position is that this would constitute a barter transaction; such a “gift” would be consideration for the executor administering the estate and accordingly it would be viewed as taxable income. This plan also has the downside that if the non-executor beneficiary decides he or she does not want to make the gift, the executor cannot legally enforce it.