November 3, 2011

McNamee v. McNamee – Implications for “Gifts” in Estate Freeze Situations

A common way for parents to protect their children’s inheritance from the children’s spouses in cases of marriage breakdown is to rely on a specific provision in the Family Law Act in Ontario which subtracts the value of any gift received from a parent of the child from the calculation of the child’s net family property.

In the context of an estate freeze one of the steps is to have the parent, as the “freezor”, subscribe for common or growth shares in the operating corporation and then immediately gift those shares to his child together with a declaration that he is gifting the shares together with a further declaration that the shares are not to form part of the donee’s net family property.

This is precisely the fact situation that the Court of Appeal was presented with in the case of McNamee v. McNamee, a case involving the dissolution of a marriage and entitlement to shares which were gifted as part of an estate freeze undertaken by the father of one the spouses.

At the time of the transfer, the father prepared a declaration of gift, which stated that the shares were not to form a part of his son’s net family property and that they would be free from the control of the spouse. The father and his son then entered into a Unanimous Shareholders Agreement with respect to their shareholdings in the operating company.

One of the issues before the Court of Appeal was the fact that the son was not aware of the father’s declaration of gift nor that the gift was conditional on the shares not forming part of his net family property. The Court concluded that the son was the owner of the gifted shares but that they formed part of his net family property. The Court reasoned that a donee must know that the gift was conditional and that the donee must take steps to treat the gifted shares as being subject to the condition set out in the declaration of gift. That was not the case in McNamee, as the son had testified at trial that he had not read the documents nor was the condition communicated to him.

The important point to take from this case is that the recipient of a gift should be made aware of the conditions imposed on the gifted shares – the most important of which is to exclude them from the application of the equalization of net family property rules found in the Family Law Actand that this acknowledgment be evidenced at the time the gift is made.

To ignore the decision in McNamee is to risk one of the essential purposes of an estate freeze.