The following is an excerpt from the 6th edition of Estate Planning with Life Insurance, by Glenn Stephens, released November 2016. This has been updated to consider changes to the passive income rules introduced in the 2018 budget.
The March 22, 2016 budget eliminated the income tax advantages of many policy transfers from individual shareholders to corporations. However, the changes primarily affect transactions that involve consideration significantly greater than a policy’s cash surrender value (CSV) or adjusted cost basis (ACB), and there is no requirement that a transfer from shareholder to corporation takes place at any particular price. In many cases, it will be to the client’s advantage to transfer a policy to his or her corporation for a lesser amount (generally not exceeding the greater of the policy’s ACB and CSV). Consider the following:
- Where a policy’s ACB is greater than its CSV at the time of the transfer, it may be sold to the individual’s corporation for an amount equal to the ACB without tax consequences.
- Where a policy’s CSV is greater than ACB, the difference will be taxable on any policy transfer from an individual to his or her corporation even if the consideration paid is less than CSV. In such cases, it may be advisable to set the purchase price at CSV as that will represent the minimum proceeds of disposition in any case. It may still make sense to transfer the policy if the resulting tax liability is not considered onerous.
Policy transfers undertaken after the 2016 budget within the above guidelines may still be attractive. There can be significant advantages in having a corporation own a life insurance policy, in particular, because of its lower tax rate and because of the availability of the capital dividend account.
There is an additional advantage for corporate-owned life insurance due to the introduction of new passive income rules in the 2018 federal budget. Corporations whose ‘adjusted aggregate investment income’ exceeds $50,000 in a year will have restrictions on how much of their business income will be eligible for the small business deduction. Where the passive income exceeds $150,000, access to the small business deduction will be lost. The advantages for life insurance arises because earnings within an exempt policy are not included in calculating a corporation’s passive income.
The benefits from these transactions can be significant, but clients should plan carefully before acting as there are other factors that should be considered:
- Will the transfer of the policy to the corporation expose the policy to corporate creditors?
- Will the original purpose of the insurance be maintained if the policy is transferred to the corporation? For example, a personal policy acquired to secure a spousal support obligation should not, in most cases, be transferred to a corporation as it may be contrary to the terms of a settlement or court order.
- Will the shares’ eligibility for the capital gains exemption be affected if the corporation assumes ownership of the policy?
Policy transfers from shareholders to their corporations will continue to be attractive in many circumstances. Careful planning is necessary to ensure that the transfer can be done tax effectively and in a way that enables the client’s planning objectives to be met.
For more information, contact your local PPI office.
About the Author
Glenn Stephens, LL.B., TEP, FEA, is Vice-President, Planning Services with PPI Advisory in Toronto, and provides tax and legal support to PPI Associates across Canada. He has been with PPI since 2004. Glenn has lectured and written extensively on the subjects of estate planning, taxation, and life insurance. He is a regular columnist for FORUM magazine and Insurance Planning, and is an editor of CLU Comment. Glenn is a member of the Society of Trust and Estate Practitioners (STEP), the Conference for Advanced Life Underwriting (CALU), and the Canadian Tax Foundation.