Can an executor distribute an estate before getting a Tax Clearance Certificate?

This post originally appeared on this blog in 2010. Since then, the original post has filled with comments beyond capacity and the system doesn't let me reply to them (who would have thought capacity for 200 comments wouldn't have been enough space?). I'm posting it again here, with several updates, so that readers can once again post on the thread.

An executor may wait for Canada Revenue Agency to send him or her a Tax Clearance Certificate before giving the beneficiaries their shares of the estate. This procedure arises from the fact that an executor is required by law to pay all debts and taxes before giving money to beneficiaries, and the Clearance Certificate is proof that there are no more taxes owing by the estate. It protects the executor. Unfortunately, getting the Clearance Certificate takes months.

However, there is a process for an executor to give the beneficiaries most of their inheritance before getting the Clearance Certificate, a process known as an interim distribution.

Before an executor takes this step, consider the fact that if he or she pays the beneficiaries before paying Canada Revenue Agency, that executor will have to come up with the tax money, even if it is out of his or her own money. Once you've given the money out to the beneficiaries, it's pretty hard to get some of it back again to pay taxes.

To boil down a detailed process into a simple description, the idea of an interim distribution is to hold back enough money in the estate to pay future taxes, future expenses and any legal or accounting fees, and to distribute the rest to the beneficiaries.

If the interim distribution is just a small bit of the estate, the executor doesn't have to create an accounting or ask for a Release from the beneficiaries. However, if as is usually the case, the interim distribution is the bulk of the estate, then the executor will produce a legal accounting of the estate that details all of his or her financial transactions on behalf of the estate. The accounting will also include a Statement of Proposed Distribution that shows how much of the estate the executor proposes to give out to the beneficiaries now, and how much is being held back for taxes and other expenses. The financial documents are given to the beneficiaries along with a Release document. If all beneficiaries agree and sign their Releases, then the executor can go ahead with the interim distribution.

How do you know how much to hold back for taxes? Obviously you must get this number correct. I have never proceeded with an interim distribution without working with a tax accountant who can estimate better than I can what taxes might be owing by the estate. Remember that the taxes for a deceased in the year of death might not be the same as the last few years before death, depending on the assets. For example, there might be taxes on a RRIF to take into account in the year of death that wouldn't have been applicable in earlier years.

Executors approach interim distributions in different ways. Some don't see why they shouldn't make an interim distribution since their liability is covered by the amount held back. They would just as soon keep everyone happy and get rid of the responsibility of handling the assets. Then there are other executors who won't make an interim distribution. They have their reasons, I'm sure, but if the executor takes too long without good reason for not making an interim distribution (I'm talking years here, not months) then the beneficiaries may ask the court to force an interim distribution. I have noticed a number of cases in which the beneficiaries were successful in this application.