The Tax Advantages of Corporate-Owned Participating Life Insurance
- Ben Corriveau
- Oct 24, 2024
- 3 min read
In the world of financial planning, business owners are often looking for effective ways to protect their company’s future while also maximizing tax efficiency. One of the best-kept secrets in corporate financial planning is participating life insurance. This type of insurance offers not only death benefit protection but also numerous tax advantages that can significantly benefit business owners.
In this blog post, we’ll explore how corporate-owned participating life insurance works and the potential tax advantages it offers.
What is Corporate-Owned Participating Life Insurance?
Participating life insurance is a type of permanent life insurance policy that provides a death benefit while also accumulating cash value over time. The policyholder— in this case, the corporation—has the potential to receive dividends based on the insurer’s performance. These dividends can be used to reduce premiums, purchase additional coverage, or be reinvested into the policy to grow its cash value.
When a business owns a participating life insurance policy on an owner or key employee, it becomes an asset of the corporation, and any benefits derived from the policy are under corporate ownership.
Tax Advantages of Corporate-Owned Participating Life Insurance
Tax-Deferred Growth of Cash Value
One of the biggest benefits of participating life insurance is the tax-deferred growth of the cash value within the policy. The cash value grows based on the dividends paid by the insurer, and this growth is not taxed as long as it remains within the policy. This provides a unique opportunity for a corporation to build tax-sheltered wealth within the business.
Capital Dividend Account (CDA) Credit
In Canada, when the life insured under a corporate policy passes away, the death benefit paid to the corporation typically creates a credit to the Capital Dividend Account (CDA). The CDA allows the corporation to pay out the death benefit, or a portion of it, to shareholders as a tax-free dividend. This is a significant advantage because it enables business owners to pass wealth to their families or shareholders in a tax-efficient manner.
Tax-Free Death Benefit
The death benefit from a participating life insurance policy is generally received by the corporation tax-free. This influx of capital can be used to pay off debts, fund a buy-sell agreement, or provide liquidity for the business. In many cases, the death benefit far exceeds the premiums paid, making it a very efficient tool for business succession planning.
Leveraging Cash Value
The cash value within a corporate-owned policy can be accessed during the life of the insured, often through a collateral loan arrangement. This means the corporation can borrow against the policy’s cash value to fund business operations or other investments, without triggering a taxable event. The interest on these loans may also be tax-deductible under certain conditions, further enhancing the tax efficiency of the strategy.
Premiums May Be Deductible (Under Specific Conditions)
While premiums for life insurance policies are generally not tax-deductible, there are certain circumstances where they may be deductible. For example, if the policy is used as collateral for a loan, and the loan is used to earn income, a portion of the premiums may be deductible. It’s essential to consult with a tax advisor to determine whether this applies to your specific situation.
How Can Business Owners Benefit?
Corporate-owned participating life insurance is an ideal solution for business owners looking to protect their business while also building wealth in a tax-efficient manner. It provides:
Wealth accumulation through tax-sheltered growth of the policy's cash value.
Flexible access to cash for business needs.
Tax-efficient succession planning through tax-free death benefits and capital dividend payouts.
Long-term financial security for the business and its shareholders.
By incorporating participating life insurance into a corporate financial plan, business owners can ensure that their company is well-positioned to handle unforeseen challenges while also providing a legacy for future generations.
Conclusion
Corporate-owned participating life insurance offers a powerful combination of protection and tax advantages for business owners. It’s a flexible, tax-efficient tool that can enhance your company’s financial stability while also serving as a key component of your succession plan.
If you’re interested in learning more about how participating life insurance can benefit your business, contact us at Founders Wealth today. Our experienced team can help you explore the options and develop a customized plan that aligns with your business goals.
