Limited Partnerships and Mortgage Investments

Limited partnerships and mortgage investments pose unique problems for estates. Liquidity is the main issue that arises due to the inability to sell these assets to pay for tax liabilities. When one deceases limited partnerships and mortgage investments are taxed as if they are sold at fair market value, this is called a deemed disposition. Even though the estate has to pay tax on the deemed disposition of investments in limited partnerships and mortgages, they lack liquidity. In most cases investments in limited partnerships and mortgages cannot be sold when the money is needed. 

Mortgage Investments and Mortgage Pools

In Canada due to low interest rates investors have started to invest in mortgages that offer higher rates of return. Like all investments the higher the risk the higher the potential return or loss. The no risk mortgage market is dominated by the big five banks which lend money without any risk with fully insured CMHC mortgages. An individual investor typically invests in mortgages either by direct lending to the borrower or through a managed mortgage pool. These are higher risk mortgages not insured by CMHC, such as second or third mortgages on commercial, industrial or residential property.  

Direct Investment in Mortgages

An individual investor lends out money to the borrower for a mortgage. The borrower agrees to make payments over the term of the mortgage at a set rate of interest. This type of arrangement is common as investors feel more secure with real estate than other asset classes. If the lender deceases it is difficult or impossible to get the principal that was lent out prior to maturity of the term of the mortgage. The estate is still liable to pay the tax on the mortgage investment when the investor deceases. If the real estate market falls after the deemed disposition of the mortgage investment, not only does the estate have a tax liability but will also have an investment with substantial losses. We will not discuss the mechanics of these transactions, they are complex and require professional advise of accountants, lawyers, mortgage brokers and real estate appraisers. 

Mortgage Pools

In today's low interest rate environment there have been a number of investment offerings of mortgage pools. In this arrangement the investor invests their money with a company that manages a pool of mortgages. The advantage is the risk is spread out over a number of different mortgages and all the administration is done by the company managing the mortgage pool. The promoter earns the spread between the interest they pay to the investors and the interest they charge the borrower. The spreads can be quite high. The investors are typically paid 6% to 8% and the borrowers pay interest rates of anywhere from 12% to 30%. These types of mortgage investments can be outright speculative. The money is lent out to developers on a property that does not exist but is being built.  

Limited Partnerships

Limited Partnerships are sought after by investors that have substantial taxable income. The investments are usually made based on the merits of tax savings not the underlying investments of the limited partnership. The most popular types of limited partnerships invest in real estate as the underlying asset class. It is estimated that Canadians have invested over one billion dollars in real estate limited partnerships. When the investor deceases their limited partnership investments are taxed as if they are sold at fair market value. The deemed disposition of real estate limited partnerships can have serious implications for estates and in some cases can cause the estate to become insolvent.

There is no secondary market for limited partnerships in Canada for the investors to sell their investments. The promoter who is the general partner has little interest in selling the underlying real estate assets, they would no longer be able to collect management fees charged to the limited partners. In some cases the assets are subject to taxation in multiple jurisdictions such as real estate located the U.S. In all cases the estate requires liquid cash to pay the tax due on deemed disposition of the limited partnership investment. 

Life insurance is the most tax efficient way to fund tax liabilities for estates. Stone-Hedge Financial Group Inc. has expertise in this highly specialized area and can provide guidance and implementation of funding for the investors estate.

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The information provided on this web site is intended for general information only. It should not be construed as legal, accounting, tax or specific insurance and investment advice. Clients should consult a professional advisor concerning their situations and any specific insurance and investment matters. While reasonable steps have been taken to ensure that this information was accurate as of the date hereof, Stone-Hedge Financial Group Inc. and its affiliates make no representation or warranty as to the accuracy of this information and assume no responsibility for reliance upon it.