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Corporate owed life insurance

First post on this forum, please be nice :grin:. The following is new territory for me so thought I’d throw it out here.

I recently was referred a client whom I have no prior involvement with on a discrete matter. A summary of the facts as I know them is as follows

  1. Corporation (“Corp”) has a shareholder who is a professional (“Shareholder”).
  2. Corp has a whole life policy (the “Policy”) on the life of Shareholder. Premiums are paid for by Corp.
  3. Subsequent to entering into the Policy, the Policy was assigned as collateral for a loan taken out by Shareholder (i.e. debtor = Shareholder; guarantor = Corporation).
  4. Shareholder used the proceeds of the loan to make investments.
  5. Shareholder is close to retirement and cannot afford the premiums (i.e. Corporation stops being active and thus has no revenues to pay the premiums).

If Corp surrenders the Policy for its Cash Surrender Value (“CSV”), I assume this should trigger a taxable gain (CSV less ACB)? If that is the case I assume the insurance company provides what the ACB is? The gain then is a capital gain or full income gain? I’m still digging through the research/legistlation but something suggested to me that its taxable at 100% not at capital gains rates.

Then, if the CSV is used to pay off the loan taken out by Shareholder then this should trigger a shareholder benefit. Corp doesn’t have a large shareholder loan payable to channel the funds through and I don’t see any other avenues. Anyone run into this before?

The other possibility is to dispose of the investment made under point 4. above. That would trigger tax on the dispositions. Also, I haven’t been able to track down the total portfolio of investments. Part of it seems to have gone…missing…

Any thoughts would be appreciated. Thx.

Another option might be to use the CSV to pay the premiums. Upon cashing a policy, the resulting policy gain is not a capital gain; it’s 100% taxable. The insurance company will calculate this but you can ask for the number ahead of time.

We have a local insurance person who has recommended these structures for many years but normally to better-off clients. It was always my fear that this could be a result.

I guess the shareholder could die and the company get the proceeds, pay out a capital dividend, and repay the loan but that’s an extreme solution.

@kevin Thanks, I will explore that option. I’m willing to bet the loan has sucked out so much collateral that there is not enough “room” in the policy to fund the premiums.

Unfortunately for this person, they just reached retirement age and appears to be in good health. I’m still battling on getting information if the advisors did anything to get out the 10/8 arrangement rules. If it’s still a 10/8 that capital dividend won’t exist to the extent the amount is post 2013…

I’m leaning towards the option of tracking down the remaining investments that were purchased using the loan. If they are worth at least the loan value then maybe we can dispose of the investments to pay down the loan. That’s under the assumption the ACB of the investments is at least equal to the loan balance. If that works, then the loan would disappear and all we are left with is the policy. Then presumably we could then fund the policy using the CSV. Does that sound crazy? I feel like we are unwinding what was originally set up.

Because the policy has been used as collateral for the loan, the proceeds must go to the lender first. If that isn’t enough to pay off the loan, then the investments need to be sold to cover the loan.

Whole life premiums have been deducted by the corporation and are therefore income to the corporation when received so the government can get their tax on deductions given in the past and now recouped.

Investment gains and losses will depend on if they are in the shareholder’s name (I suspect they are) or the corporation name. This is where your capital gains will come into play.

@dklassencga thanks for your response.

To the best of our ability I don’t think we should surrender the policy. Because the policy is inside the Corporation, taking the funds out will trigger a shareholder benefit. Since the CSV is approxmately the same value as the loan, this automatically isn’t enough to pay off the loan.

I’m going to try to track down all the investments since they seem to be all over the place. They are indeed held by the client personally. The loan is also taken out personally but backed by the corporate policy. Assuming the investments have increased in value, this should theoretically be enough to pay off the loan.

Then that leaves how to fund the policy. I’m hoping there’s enough cash to fund a one time payment to fund the rest of the policy for life.

Related question:
I haven’t examined whether or not the corporation deducted the premiums as I have yet to get access to the account. However I would have thought that whole life premiums paid by the corporation are not deductible? They would only be deductible under 20(1)(e.2) if the policy or portion thereof is assigned as collateral for a borrowing made by the corporation? If this case it wasn’t the corporation that borrowed but rather the individual?


If the policy covers the life of the shareholder (which it does or they wouldn’t have used it as collateral) and the beneficiary is the corporation, the premiums would be deductible.

My experience has been that paragraph 18(1)(b) generally excludes Life Insurance premiums from being deductible (even at the corporate level), as they are considered to be capital outlays. There are, however, a couple of exceptions;

Life insurance premiums may be deductible if they can meet the criteria set out in paragraph 20(1)(e.2) in that a financial institution requires Life Insurance be pledged as collateral for a loan to which the interest is deductible. In this case, the proportion of the premiums deductible would be in relation to the proportion that the loan is to the face value of the policy. ie if the loan is 50,000 and the death benefit is 100,000 then 50% of the premiums would be deductible if the bank requires the policy be assigned to them as collateral.

Otherwise, Life Insurance premiums may also be deductible by a corporation if there has been a taxable benefit claimed by the employee.

In the case that @echan mentions, it seems the corporation is paying the premiums, it is not known whether the beneficiary under the policy is the estate or the corporation, but the shareholder personally took out a loan and pledged the policy as collateral. In my world, unless the shareholder gets a taxable benefit each year, I can’t really see the corporation being able to make a tax deduction for the premiums it pays. The corporation didn’t receive the loan proceeds from the pledged policy.

@snoplowguy I am of the same view. 20(1)(e.2) requires that among other items, the interest be deductible in computing the taxpayer’s income. The taxpayer would be the corporation because it is the “taxpayer” paying the premiums, but the interest is being deducted by the individual since the borrowing is there.

I am not aware of there being a taxable benefit, but good point, I will dig on that point.

Isn’t there also another problem as well? The corporation has pledged its asset against the borrowing of the individual taxpayer. Possible shareholder benefit, being the FMV of any guarantee fees an arm’s length party would pay the corporation to have it pledge its assets?