Life Insurance Shares

There are times when a business owner may wish to use the business to fund a life insurance policy and have the proceeds from the policy flow to a specific party. This may occur for any number of reasons including:

  • A business owner may want to continue life insurance coverage on the life of a former owner of the business, and have the life insurance proceeds flow to the former business owner’s surviving spouse and/or surviving family.
  • Business co-owners may want to cause their corporation to own and fund life insurance policies on the lives of their spouses, and have the life insurance proceeds flow exclusively to the widow(er), to the exclusion of the other business owner.
  • Business co-owners may agree to over-insure their buy-sell arrangement, with the understanding that any excess life insurance proceeds flow to the estate of the business owner; to the exclusion of the other business owner
  • A business owner may want to bequeath his or her shares of the business to one child but have the proceeds of the corporate-owned life insurance policy flow to another child
  • A parent may want to fund life insurance policies on the lives of his or her children and/or in-laws but want the life insurance proceeds to flow to the children or grandchildren

If a business owner simply names another party as the beneficiary of the corporate-owned life insurance policy, or causes the corporation to pay the premium on a life insurance policy owned by another party, then the shareholder of the corporation would incur a taxable shareholder benefit.

One planning strategy to achieve the business owner’s objectives and avoid the imposition of a taxable shareholder benefit is to use “life insurance shares”. The strategy is to have the intended recipient of the life insurance proceeds subscribe for a special share (life insurance share) of the company where the share’s only right is to receive a dividend equal to the life insurance proceeds received by the company. Alternatively, the special share could be owned by the life insured and bequeathed to the intended recipient when the life insurance proceeds are paid to the corporation. The board of directors of the company could then declare a capital dividend payable on that special share to the extent the company receives a credit to its capital dividend account because of the receipt of the life insurance proceeds.

A deeming provision within the Income Tax Act specifies that only the cash value in respect of a life insurance policy on the deceased shareholder or any other non-arm’s length individual is to be taken into account when valuing the shares of the deceased shareholder. It is important to note that this provision only applies to the deceased shareholder and life insurance on his or her life (and the lives of non-arm’s length individuals). The provision does not apply to other life insurance policies held by the corporation. This means that other life insurance policies would be valued at their fair market value when valuing the company shares.

The Canada Revenue Agency’s published information Circular contains a list of relevant factors to be considered in the valuation of a life insurance policy. These factors include: the cash surrender value; the state of health of the insured as well as his or her life expectancy; conversion privileges; other policy terms such as term riders and double indemnity provisions; and replacement value of the policy.

Planning that involves life insurance in a corporate setting can be complex and professional tax and legal advice should be sought. While life insurance may play a crucial role in certain situations, it is important to consider the income tax issues with respect to valuation.