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The Last Great

By Marples, Moffat & Lanctot


Disregard this article if you are satisfied with the amount of tax you are paying.


ichael has been in the collision repair business for 25 years now. For 15 of those years, he has owned his own shop, and for the last few years, the shop has finally been turning some sizeable profits. Michael is now 47 years old, and he is beginning to think about retirement. He enjoys what he is doing and believes he will be active with his business until age 60 or 65, when he will be ready to sell his business and retire. This sounds like the beginning of a nice story, and for the most part it is. However, there is one consideration that preoccupies Michael the most: How to manage company profits in the most efficient manner possible and pay the least tax. For example, what if Michael’s business is showing net revenues of $200,000 for the year; that is, gross revenues generated by the business, less all expenses such as salaries, rents, equipment, advertising, and all other costs associated with running the business. And let’s say that Michael pays himself a bonus of $120,000. This still leaves a net business income of $80,000. In BC, this would result in a small business tax rate of 18%, or $14,400, leaving the business with an after-tax surplus of $65,600 for the fiscal year. It is with this after tax surplus that Michael should be concerned. As the business continues to turn a profit for the next few years and beyond, the books could start showing a sizeable amount of retained cash. If this cash is simply invested, it can attract rates of tax as high as 49% in BC. The tax rate is higher in this case because the investment income is not deemed to be income actively generated by business operations. Therefore, Michael must consider alternatives for the efficient use of retained cash by his business. His immediate consideration should be a life insurance policy. Michael’s company 18




(or Holding Company) is allowed to acquire a life insurance policy on Michael’s life, and pay the premiums out of after-tax surplus. Since there will be no tax relief for the premium, using after-tax surplus to pay for the insurance has the added advantage of using money that was taxed at 18% rather than Michael’s personal income tax rate of over 40%. Life insurance products have now become very sophisticated and enjoy a variety of very attractive tax benefits. In addition to the death benefit being paid tax free, the growth on investments inside the insurance plan, within limits, are also not taxable. This is where Universal Life Insurance comes in. Michael’s company can acquire a Universal Life (UL) policy for

$1.5 million of coverage on his life. The law also allows Michael’s company to invest up to $40,000 per year into the plan and select from a wide variety of investment options, from GICs to Mutual Fund Accounts, and pay no tax on the growth earned on those investments. On Michael’s death, the capital and growth on those investments is paid tax free to the company, resulting in no tax ever being paid on investment income inside the UL policy. Because Michael’s company is the purchaser of the insurance policy, the company must also be the beneficiary. However, Michael’s spouse can still personally receive the insurance proceeds tax free through the company’s Capital Dividend Account (CDA). The CDA of the company is a special account that can be used to make tax-free dividend payments to shareholders of the company. Proceeds of life insurance policies paid to companies result in a CDA credit equal to the death benefit of the policy less its cost base (in later years, the cost base can be $0). Upon Michael’s death, his shares in the business will rollover directly to his spouse tax-free, making Michael’s spouse a shareholder in the business and allowing her to receive payments of the insurance proceeds through the CDA of the company. (A qualified financial advisor or tax accountant should be consulted for all the details pertaining to this approach). Set up correctly, Michael will end up with a paid-up life insurance policy on his life, paid for with corporate after tax dollars, that will save an enormous amount of taxable income that he can spend while he is alive, and ultimately benefit his family upon his death. Here’s how this works: Michael personally purchases a low-cost term UL policy. Michael’s company makes monthly or annual deposits to the UL contract. These

deposits are sufficient to not only pay the insurance premiums, but also to create some substantial investment value inside the contract. This investment value belongs to Michael even though it was paid by his company, since the company’s deposits are deemed to be for the purchase price of the insurance. Let’s explain this further by going back to the $1.5 million example. Michael buys a $1.5 million policy on himself and then sells the rights to the insurance to his company. The company pays the ongoing annual cost for this insurance every year; however, they could also pay-up the insurance over a 10-year period at $34,500 per year. This represents the fair equivalent value of the insurance if paid over a period of 10 years. This annual $34,500 of premium paid by the company will generate investment values inside the contract that will actually be owned by Michael, but Michael will not receive a taxable benefit from these company-paid premiums. This is because they are deemed to be the fair equivalent value of the price of the insurance that the company is acquiring. The personal ownership of the investment values has several major advantages for Michael: 1) He can name a personal beneficiary for those values on premature death, meaning that the investment values can be paid directly to his spouse tax-free on his death, without having to go through the company and avoid probate fees. 2) Michael can use these investment values as leverage and serve as an additional retirement income. These tax-free investment values can be used to repay any outstanding loans at death, and loans taken as income are not taxable during Michael’s lifetime. Utilising this strategy, along with some reasonably conservative investment return assumptions, we can project a taxfree retirement benefit for Michael of $50,000 per year from age 65 to age 85. 3) A third very valuable aspect of this contract is that all the funds held inside this contract would be deemed to be creditor proof. This means that if Michael finds himself in a lawsuit or is being pursued by any kind of creditor, including CRA, nobody but Michael has access to his funds, unless of course Michael was involved in criminal activities. The implementation of the above strategy is actually quite straightforward. You can even use an existing insurance policy under the right circumstances; however, there

are a number of important considerations that must be reviewed by a professional who clearly understands this concept. Regardless of the actions you ultimately

corporate finances in a more tax-efficient manner and save you thousands in taxes. Avoid the tax trap and take advantage of this legal method of getting corporate

Avoid the tax trap and take advantage of this legal method of getting corporate income into your hands to spend while you are alive. take, you will not be alone. A qualified financial advisor who specializes in this strategy can help you make the proper decisions to manage both your personal and

income into your hands to spend while you are alive. It would be like building a self funded tax-free retirement pension plan. Regardless of the size of your business, ...Tax Shelter continues on p. 25.

JUNE-AUG/06 Collision


...Tax Shelter continues from p. 19.

you can take advantage of this excellent strategy. You will know it is time for you to look deeper into this when you start to feel you are paying too much tax. Contact a qualified financial advisor or tax accountant for a confidential proposal specifically designed to suite your needs. Contributors • Simon Marples has been a financial advisor for ARA members for over 18 years and has an office in Coquitlam, BC. He can be reached at 604 482-1252 or • Jeff Moffat is an expert at corporate insurance strategies based both in Langley and Kelowna BC. His phone number is 250 717-7956 • Phil Lanctot is a sales and marketing coordinator for Industrial Alliance Pacific Insurance and Financial Services, whose head office is located in Vancouver, BC.



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The Last Great Corporate Tax Shelter  

Are you satisfied with the amount of tax you are paying?

The Last Great Corporate Tax Shelter  

Are you satisfied with the amount of tax you are paying?