For an incubating business on the path toward profitability, owner interactions may be informal and dynamic. Then as things mature, focus shifts to sustainability and eventually succession. This is when more structure is needed, ideally anchored by a Binding Shareholders’ Agreement (BSA) that aligns everyone as managers, and guides them as owners. Beyond operations, the BSA can address the sticky matter of how they may part ways, sometimes called the four D’s: Departure, Disagreement, Disability and Death.

Of these, an owner’s death can be the greatest disruptor, often exacerbated when commercial interests are interwoven with family connections. A surviving spouse and family will be looking for a buy-out, but the other owners may have the bulk of their wealth tied up in the business. So, while a BSA can lay out the ground rules to resolve now-conflicting legal positions, it can’t assure that there are sufficient dollars (in the right hands) for everyone to fulfill their part.

Though not tax-deductible, insurance premiums paid by a corporation come out of ‘pre-dividend’ dollars. Not only does this cost less than paying personally, but the tax-free proceeds to the corporation opens the way for tax-free dividends to fund the share buyout process. Guided by the BSA, access to the lifetime capital gains exemption (LCGE) can be optimized for both the deceased and continuing owners. For each, this can eliminate tax on up to about $1 million of capital gains on small business shares.

PERSONAL insurance ownership may appeal to very small businesses, as it is the simplest structure:
♦ Criss-cross method – Shareholders own policies on each other directly, or through a trust.

CORPORATE ownership allows for more complexity:
♦ Promissory note method – This is preferred when the deceased’s full LCGE can be used.
♦ Corporate redemption method – Where no LCGE is available, this is the fallback route.
♦ Hybrid method – This is most appropriate when some LCGE has been used, but more remains.

Whether by choice or circumstance, many people are most comfortable when investments produce consistent, guaranteed returns, like interest. Particularly for those 65+ who are past their working years and depend in part on fixed public pensions, predictable income is critically important for meeting living expenses. Even so, a time may come when more is needed to manage the household, or perhaps a new opportunity or travel adventure arises.

A move toward investing in marketable securities may lead to higher returns over the long-term, but markets fluctuate, which can be inconvenient and costly when consistent cash flow is required. Or efforts could be redoubled to find better guaranteed investment certificate (GIC) rates, but even that carries the risk that rates will not be as favourable when those term investments mature. So, is there a way to produce higher guaranteed returns without increasing risk?

Annuities are a type of insurance. For a principal payment, an insurer agrees to pay guaranteed lifetime income, commonly paid monthly. Compared to GICs that pay interest only, each annuity payment is part interest and part return of capital, also known as ROC. While interest is taxable for both GICs and annuities, ROC is not. Still, an annuitant may feel depleted for having committed the principal to the annuity. That’s where life insurance can step in to fill the void.

An annuity is acquired with non-registered money that would otherwise be destined for GICs. It can be arranged to pay for one person’s life or through to the later death of the couple. Concurrently, permanent life insurance is obtained for an amount equal to the capital used for the annuity. It will be either single-life or joint-last-to-die, aligning with the timing of the annuity. In sum, year-to-year cash is increased, while guaranteeing the capital transfer to heirs.

Parents who have built up sufficient wealth for their own needs may next be looking for ways to transfer that wealth in a tax-efficient manner to their children and grandchildren. Ideally, they’ll not only want to share their assets, but also the lessons they’ve learned and wisdom they’ve gained in accumulating that wealth. Life insurance is a time-tested tool that has long been used for wealth protection and growth, and can also be effective for wealth transfer.

Consider that if parents accumulate traditional investments, they will have to pay tax on capital gains before transferring to the child to invest. It’s a double wallop if the child is still a minor, with the tax on most investment income being attributed back to the parents. It may not be much better with adult children, who may be the same tax bracket as the parents, or even higher. Either way, the parents will have no further control over the gifted funds.

Parents can purchase life insurance on their minor child, or on their adult child with consent. Policy deposits over the required annual premium can then grow tax-sheltered. Parents have full control over the policy, then at an appropriate age, they can transfer it to the child. A special insurance rule allows certain down-generation transfers to be treated as a tax-free rollover. If planned early enough, this can even be done in stages, from grandparents as original owners, then to parent and on to child.

Parents may wait until they have excess cash, or could obtain the insurance while the child is a minor. Not only is underwriting more lenient at younger ages, but premium cost is also lower. After transfer, a withdrawal may be taken out of the cash value if desired, though a portion may be taxable to the child as current policyholder. And apart from the transfer of cash value, it’s a gift of family values, with the child’s insurability being secured to protect the next generation.