Corporately Owned Life Insurance for Small Business Owners in Canada

Simon Huften

Simon Huften is the President of Life Insurance Canada.com Inc.

Small business owners face many challenges when it comes to planning for their future. They must ensure that their business remains profitable and successful while also preparing for their own retirement and ensuring that their family is protected in case of unexpected events. One tool that small business owners in Canada may consider using to address these concerns is a corporately owned permanent life insurance policy. In this blog, we will explore the benefits of this type of life insurance policy and why small business owners should consider it as part of their overall financial planning.

In This Article:

• What is corporately owned permanent life insurance?
• Tax Benefits
• Protection For Your Business
• Retirement Planning
• Estate Planning
• Creditor Protection
• Selling Your Business?
• Conclusion: Corporately Owned Life Insurance

What is corporately owned permanent life insurance?

Corporately owned permanent life insurance is a life insurance policy that is owned by a corporation rather than an individual. It is similar to individual insurance in that a permanent policy provides coverage for the entire lifetime of the insured. In the case of corporately owned coverage the life insured is the owner (or a key employee) of the business.  Additionally, permanent life insurance policies also have a cash value component which grows over time and can potentially be used as a part of a plan for drawing retirement income.

The premiums for a corporately owned life insurance policy are paid for by the corporation and the death benefit is paid out to the corporation tax-free. Death benefits paid to corporate owners will result in a credit being applied to the business’s Capital Dividend Account, allowing for planning opportunities for surviving shareholders.  A permanent life insurance policy allows for several financial planning opportunities including protecting the business in case of unexpected events, retirement planning, and estate planning.

Tax Benefits

How to make money grow within your corporation can be challenging.  Corporate investment income is typically taxed as passive income and as a result of this the amount of tax applied is typically at (or above) the highest marginal tax rate in the province you live in.  Usually this means that it is taxed at higher than 50%.  Consider instead a permanent life insurance policy with an investment component or cash value.  One of the primary benefits of a corporately owned permanent life insurance policy for small business owners is that it is a life insurance plan, not an investment generating passive income.  The cash value component of the policy grows on a tax deferred basis which allows the investment portion of the policy to grow much quicker when compared to being in a taxable environment.

In addition, the death benefit paid out to the corporation is tax-free. This means that the corporation can receive the death benefit without having to pay taxes on it. Understanding the presence of the Capital Dividend Account (CDA) becomes key here.  If the death benefit of a corporately owned life insurance policy is paid as a death claim the business receives the cash and the CDA has a credit applied to it.  The CDA is a notional account, but the key part of the CDA is that when a credit is applied to it that amount can then be paid to shareholder tax-free.  This can be a significant benefit for small business owners who are concerned about their tax liability.

Protection For Your Business

It goes without question that small business owners invest a lot of time, money, and effort into their business. If a key employee of the business were to pass away (e.g. the business owner), it would more than likely have a significant impact on the business. A corporately owned life insurance policy can help provide funds to keep the business running smoothly in the event of the death of a key employee.

Remember, a life insurance death benefit payment provides your business with a cash infusion at the time that it is needed.  How the money is used is at the discretion of the surviving business owner.  It could be used to pay off debt, provide liquidity for the business, or hire and train a replacement for the deceased key member. All of this can help ensure that the business continues to operate without interruption and that the surviving members of the business can focus on running the business without worrying about financial issues.

Retirement Planning

Retirement income is a big burden that is placed on small business owners.  Along with the stress of maintaining a successful business that pays employees and grows over the years the owners must also plan for their own retirement. A corporately owned permanent life insurance policy that contains a cash value can be a valuable tool when looking at retirement planning for a business owner.

The policy’s cash value grows in a tax deferred environment and there are many different strategies to access the cash while minimizing the tax consequence of using the policy. With proper planning a small business owner with a corporately owned life insurance policy has a valuable tool at their disposal in their retirement plan.

Estate Planning

Many small business owners in Canada become very successful over time and must consider estate planning to ensure that their assets are passed to their loved ones efficiently. They want to ensure that their assets are distributed according to their wishes after they pass away. Another benefit of a corporately owned life insurance policy is that it can be used as part of an estate planning strategy.  Remember the CDA that was mentioned earlier?  Someone who inherits your business shares is able to receive the tax free CDA payments since they inherited ownership interest in the business.  Your estate plan can factor things like this into it and offset some of the tax consequences of share transfers.  Again, careful planning for the business owner can help ensure that when the death benefit from a corporately owned insurance policy pays out that the business owner’s family is taken care of and that their assets are distributed according to their wishes.

Creditor Protection

Creditor protection refers to the legal protections afforded to certain assets that shield them from the claims of creditors. In Canada, as an individual, there are several assets that are considered creditor protected, including registered retirement savings plans (RRSPs), registered retirement income funds (RRIFs) and life insurance policies.  Creditor protection is an important area to consider because the rules that apply to personally owned life insurance policies do not carry over to corporately owned policies without question.  For example, in Ontario a corporately owned life insurance policy is not protected from the creditors of the business that owns the policy.  It is possible to ensure a degree of creditor protection for a corporate owned life insurance policy.  If creditor protection is an important feature of a corporate life insurance policy, it is very important that as you work with a lawyer and a financial advisor to ensure that the policy is set up in a way that complies with all relevant laws and regulations.

Selling Your Business?

Another item to consider is that if your operating company is the owner of a life insurance policy and you want to sell or dissolve your business the life insurance policy is considered an asset of the business and it may trigger taxable events to transfer the ownership out of the corporation’s name.  Again, depending on the way that the policy ownership is set up to begin with you may be able to avoid this issue (i.e. having a holding company own the insurance rather than the operating company).  Make sure that when you establish the policy that you consult with your legal and financial advisors, they can assist you with setting the policy up from day one in a way that meets your needs today as well as into the future.

Conclusion: Corporately Owned Life Insurance

A corporately owned life insurance policy can be a valuable tool for a small businesses owner in Canada.  It can help them protect their assets, ensure business continuity and provide key person coverage in the event of the death of a key employee.  In addition to the cash infusion for your business in the event of an unexpected death, permanent life insurance can also be a valuable asset for a business owner when they plan for their retirement.

It is important to work with a knowledgeable financial advisor, lawyer and accountant to ensure that the policy is structured correctly. Ultimately, a well-designed and properly executed corporately owned life insurance policy can provide small businesses with many great benefits and peace of mind, allowing them to focus on their operations and growth without worrying about the potential impact of a sudden loss.

If you would like to learn more about corporately owned life insurance please reach out to us or book a call with one of our life insurance specialists.