It's never easy to deal with an estate in which there simply isn't enough money to pay what needs to be paid. This becomes much more complicated when the deceased had assets that were held in such a way that they don't form part of his or her estate. This situation can leave family and beneficiaries alike scrambling. A reader who is in just such a situation wrote to me recently:
"Recently my godfather passed and left me the beneficiary of his life insurance as well as an RRSP. His family tried to convince me to help pay the $2600 they put on Visa for his funeral since I was left his money and he didn't leave them money to cover the cost. He worked for GM years ago and worked until 2006 so my understanding is his CPP and GM pension would help pay those costs. I was told to contact the financial advisor in charge of the policy and RRSP which I did and was told by him that I should pay the family $5000 to cover his estate taxes. My question is what are my obligations? Do I have to pay for these taxes or is it just a ploy to get money from me?"
The general rule is that a deceased person's estate pays the cost of his or her funeral. It's pretty hard to get a funeral as cheaply as $2600 but I can see that they kept the cost low because there were no estate funds available. However, you are right that pension sources in this case will help. The CPP death benefit is $2500. Obviously I don't know whether his private pension provides a death benefit, but it may well do so.
The two assets left to you were apparently left directly by way of beneficiary designation. They don't fall into the estate and are not available to be used to pay for the funeral. You are not legally obligated to help pay for the funeral, although you could do so if you wished out of a sense of moral obligation. The issue of paying for a funeral goes beyond legal rights, and extends into how the family will view you personally.
The tax issue is a little more complicated. No tax arises as a result of the life insurance policy, but the RRSP is another matter. An RRSP is taxable when the money is taken out. When the owner of an RRSP dies, the law deems the RRSP to have been cashed out at the time of his or her death. This means that your Godfather's entire RRSP is taxable now that he is deceased.
The general rule is that when a beneficiary receives an RRSP, he or she receives the full amount and the taxes are paid out of the general estate. This is true even where the general estate is left to someone else. In your case, however, there is no other source from which to pay those taxes. If the private pension does provide a death benefit, there may be something there to contribute to the taxes, and there may be personal goods that could be sold (such as a vehicle) but otherwise there doesn't seem to be any funds available. I doubt very much that Canada Revenue Agency is going to just shrug and decide not to try to recover those taxes.
It seems to me that the financial advisor was telling you the same thing. It is very possible that Canada Revenue Agency may pursue you for those taxes.