Advanced Legacies
By Andrea Kelly,
August 28, 2014

The content of this article is only applicable to Ontario, Canada

It's not uncommon for parents to loan their adult children money to, for example, buy a starter home, pursue post-secondary education or finance a wedding. Unfortunately, many disputes have started amongst family members after the death of a lender parent over whether an amount given to one child is a gift, loan or advance against his or her share of the estate. Thus, a proactive approach is beneficial wherein lender parents specifically consider in their estate plan what should happen regarding a loan that may be outstanding at the time they pass away.

In creating a plan for this issue, four questions that should be answered by the lender parents are:

1. Is the loan properly documented in a loan agreement clearly outlining the terms of the loan, including interest and schedule for repayment?

2. Are payments being made that are evidenced by a paper trail of some sort?

3. If the loan is outstanding at your death, do you wish your executor to collect repayment on behalf of your estate OR should the inheritance of the borrower beneficiary be lessened by the outstanding amount of the loan?

4. Do other family members or beneficiaries know about the loan?

(a) If they know about it, what do they feel or think about it?

(b) If they don’t know about it, what do you think their reaction will be when they are informed about it?

There will likely be other questions that need to be asked for proper planning.

Clauses can be carefully drafted in your will to clearly state your intention in this regard. Where a lender parent intends that the loan be an advance of the whole or portion of a child’s inheritance, a hotchpot clause can be included in the will. Such a clause directs that the estate be blended with the debt of the child to create an equal division of the residue. It should state whether interest on the loan is to be included.

The purpose of the hotchpot clause is to prevent a person to whom a testator/testatrix has left a share of his or her estate, and who has been advanced in the testator/testatrix’s lifetime, from obtaining, by the combined effect of the bequest and the advance, more of the testator/testatrix’s property than s/he intended the beneficiary should have. Another situation the hotchpot direction prevents is that if the amount outstanding continues to be owed to the estate, it will be considered an asset and thereby attract estate administration tax and inflate the estate value for other purposes.

In the event the hotchpot clause is used to equalize debts that are owed by beneficiaries (as opposed to inter vivos gifts made to beneficiaries), it is important that a release of the debt be included in either the hotchpot clause itself or in a separate forgiveness of debts provision in the Will. Otherwise the debt will still be owing to the estate and the beneficiary will be doubly impacted.

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This article should not be relied upon as legal advice - the comments may not be applicable to you and may not be up to date. If you have any questions, you should contact a lawyer.