Corporate Tax Saving With Insurance

As a business owner you have options: your life insurance policy can be personally or corporately owned. There are tax advantages to a business-owned policy.

Lower Effective Cost
Generally, life insurance premiums are not tax deductible, therefore the premiums will be paid with after-tax dollars so a business owner may want to utilize dollars that generate the least amount of taxes payable. Usually the most tax-efficient strategy is to have the corporation pay the premiums directly and own it corporately. This is due to the fact that corporate tax rates are generally lower than individual tax rates, so it is better than using after-tax personal dollars. A corporation will need to earn much less money to generate the same amount of after-tax dollars as a wealthy business owner paying tax at the highest personal marginal rate.

It’s important to ensure that any corporate owned insurance policy names the company as the beneficiary and policy owner, and names the shareholder as the covered person.

Tax deferred passive income
Corporately owned Permanent life insurance is generally a tax-exempt policy which  provides tax deferred growth, as in, the cash surrender value grows on a tax sheltered  basis in addition to a tax-free death benefit. This gives rise to a tax minimization strategy whereby a business owner reallocates funds, within the corporation, that would otherwise be subject to tax, into a corporately owned life insurance policy. This benefit is comparable to the tax-deferred investment growth in a registered retirement savings plan by potentially allowing for greater asset growth because the earnings can accumulate free from tax.  The tax deferral benefit of permanent life insurance also applies to such insurance held personally. However, where the funds to invest are already in the company, investing the funds within the company will save the tax cost of paying the owner funds by way of salary or dividend to allow them to invest personally.

Protecting the small business deduction
Since 2019, businesses have restricted access to the small business limit—the amount of annual income eligible for the attractive small business tax rate. The restriction applies  to Canadian-controlled private corporations (CCPCs) that earned more than $50,000 of passive investment income in the previous year. The federal small business limit of $500,000 is phased out at $5 for every $1 of investment income above the $50,000 threshold. This means that the small business limit will be eliminated when investment income in the prior year reaches $150,000. 

For business owners, this means that there will be a loss in earning more than $50,000 of investment income inside a CCPC where the company also earns active business income that would otherwise be eligible for the small business rate. This is where life insurance comes as a savior because income from investment in an exempt life insurance policy is not considered investment income for purposes of these new rules. As such, income from investment earned in an exempt policy won't affect your CCPC's ability to claim the small business deduction and can be a vehicle to help you build wealth. Tax advantaged transfer of corporate assets to the family
When a corporation receives the death benefit from a life insurance policy, it will receive a credit to its capital dividend account (CDA) in the amount of the total proceeds of the policy less the adjusted cost basis (ACB). The corporation can then issue tax free capital dividends to the intended shareholders. Fortunately, the taxable ACB amount decreases to zero around life expectancy, so the corporation can then pay the entire death benefit amount as a tax-free capital dividend.

This is such a powerful tool that even if the business owner uses part of the insurance payout to fund his retirement by taking loans against the policy, due to which the actual cash payout to the corporation is reduced by that amount, still the credit to capital dividend account is not affected by this and as a result the corporation can even distribute any other surplus retained earnings tax free to the shareholders.

Corporate insured Retirement Planning
The Insured Retirement Plan is a strategy that first, enables tax-efficient growth of policy cash values and second, provides the business owner with a tax-free stream of income in retirement. This is usually done with a permanent, participating life insurance policy that is guaranteed to be paid up in 8, 10 or 20 years.

Once the cash values have built up and the business owner requires the funds (after the guaranteed payment period), the business owner collaterally assigns the policy to a lending institution and, in the form of a loan, receives up to 90% of the CSV as a tax-free lump sum or stream of income during the retirement years.

The loan (and the interest) is typically not required to be repaid until death and will be subtracted from the death benefit upon the death of the insured. The remaining death benefit is paid to the beneficiaries tax-free.