Tax deductions are sought after by most Canadian families and businesses to reduce our taxable income for the year are critical. But beware..the taxpayer is always the one who is impacted if they do something incorrectly. So always consult a proper tax advisor before “taking a little bit of information and reaching an absurd conclusion,” as R. Nelson Nash used to say.
Most premiums for insurance are not tax-deductible. For instance, Group insurance plans or employee benefit plans set up by corporations can be deductible for the corporation. However, if the business is writing it off, it becomes a taxable benefit for the employee. Suppose you are the business owner and an employee of the corporation. In that case, the business gets a deduction, and you have a taxable benefit. This means there is a give-and-take relationship with deductions. If you deduct somewhere, cause and effect suggest that there is a trade-off elsewhere.
In Contrast, the same business has a partner. There is a Buy-Sell arrangement in place with life insurance, and the company pays the premium. If one partner were to die early, then a tax-free death benefit shows up to provide the critical funds needed to buy out the deceased partner's shares in the business. The living partner can payout the family and maintain control over the company. That way, he is not forced into a partnership with the spouse who was never involved in the business. All parties can move on, and the company can survive. This is often required in shareholder agreements, but surprisingly many partnerships never follow through and get the coverage they need. The premiums on the life policy are paid with after-tax corporate retained earnings to get the real benefit which is tax-free money when a shareholder dies. Business owners always want to deduct this as an expense, but the insurance was not required; instead, it is voluntary. Typically the only life and health insurance premiums that might be deductible is when a 3rd party lender is involved.
From time to time, a business needs capital to grow. Perhaps for a building or equipment needs, or to buy out a competitor. Suppose a lender makes it s stipulation of providing the loan that certain shareholders get life or critical illness insurance. In that case, a valid deduction can exist. This is because the business did not voluntarily choose coverage but instead required it to grow the business with these borrowed funds. The bank is the one who gets paid out if the life insured dies which reduces the lender's risk.
There is one other instance that can provide some deductions when it comes to life coverage in a business. Like what we discussed above, companies with high cash value participating whole life insurance can pledge them as collateral for specialized lending products. Referred to as an Immediate Financing Arrangement of IFA, if used intentionally and tracked adequately, there can be some significant tax advantages. For example, the corporation funds a cash value policy with $100,000 in premiums, and a cash value is created of $70,000 in the first year. An IFA could provide as much as 100% of the total Premiums paid in a loan arrangement with additional collateral. Once set up, if the business uses these loan funds to create profit by investing in assets or plugging them back to grow the company, the interest is deductible.
Next, an internal calculation of the insurance contract called the net cost of pure insurance or NCPI can have a portion deducted on an annual basis. Over time this can lead to substantial tax deductions in the corporation while growing the business and investing the entire time.
To learn more about these IFA options and how to maximize the tax benefits of life insurance, book a time with one of our expert coaches. You've worked hard for your money. Let our team help you keep as much of it as possible for as many generations as possible. Contact Ascendant Financial Inc to get more information on a tailored Personal finance course for Canadians, to meet your needs and goals.
