Canada Life - BRIDGEFORCE

Report
Corporate Structures and Life
Insurance Ownership
Sandra Napoletano, CA
National Estate and Tax Consultant
Important Information
The information provided is based on current tax legislation and
interpretations for Canadian residents and is accurate to the best of
our knowledge as of the date of publication. Future changes to tax
legislation and interpretations may affect this information. This
information is general in nature, and is not intended to be legal or tax
advice. For specific situations, you should consult the appropriate
legal, accounting or tax advisor.
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Update: 2013 Tax Rates
Corporate tax rate (Ont.)
2013
> $500,000 active business income
26.5%
< $500,000 active business income
15.5%
Personal top marginal rate > $509,000
49.53%
Personal top marginal salary rate
46.41%
Immediate deferral
> $500,000 active business income
23.03%
< $500,000 active business income
30.91%
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2013 Federal Budget Proposals
• Capital gains exemption will increase to $800,000 from
$750,000 starting Jan. 1, 2014
• Tax rate on non-eligible dividends increases to 34.21% at
top marginal rate and 38.11% if income > $509,0000
(starting Jan. 1, 2014)
• 2013 top marginal rate on non-eligible dividends is 32.57%
and 36.47% if income > $509,000
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Benefits of Income Tax Deferral:
• Business expense are less expensive than if paid
personally
• Insurance is less expensive, therefore client can afford
more coverage
• Less taxes paid upfront allows for cash/wealth
accumulation at a faster rate than income earned
personally
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Cost Effectiveness of Using Corp. Dollars
Consider the payment of a life insurance premium which is generally
not deductible. Assuming a $20,000 annual premium.
Sole
Proprietor
Premium
Less personal tax (e.g. 46.41%)
$20,000
$17,313
Pre-Tax Income Needed
$37,313
Less corporate tax (e.g.15.5%)
Corporation
$20,000
$3,669
$23,669
Before tax income needed to pay the
life insurance premium
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Typical Client Situation
Your client owns a corporation earning active business income and there
is a need for insurance.
Issues:
•
•
•
•
Who should be the owner and beneficiary of the policy?
Who should pay the premiums?
Can designate a beneficiary different from owner of the policy
Beware of CRA’s assessing position (in 2010) for situations
where corporate owner and beneficiary are not the same
Answers: Depends on client’s objectives and their fact situation
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Typical Client
Mr. X
100%
XYZ Co.
• Mr.X’s wealth is all tied up in XYZ Co.
• Mr. X wants to preserve wealth for his family on his death
• Insurance will provide the financial security to cover income taxes
at death and estate preservation for his family
• Creditor protection is a concern
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XYZ Co. owns the policy and Mr. X is
designated beneficiary
Mr. X
XYZ Co.
- Beneficiary
- Owns policy and pays premiums
• This structure keeps the policy’s value out of the hands of Mr.X’s
personal creditors
• CSV becomes XYZ’s asset and can be seized
• Not the most tax effective structure because CRA will assess
section 15(1) shareholder benefit in Mr. X’s income for amount of
premiums
• Bad result because there will be double tax
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XYZ Co is Owner & Beneficiary
Mr. X
XYZ Co.
- Owns policy, pays premiums and is
the beneficiary
• Life insurance policy is exposed to XYZ Co’s creditors
• CSV may put XYZ Co offside for CGE & QSBCS status
• Alternative owner for policy?
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Set up a Holdco
Mr. X
100%
Holdco
100%
XYZ Co.
• Transfer of XYZ Co can be done on a tax-deferred basis therefore
no immediate tax consequences to Mr. X
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Benefits of Owning Opco Through
Holdco
• Dividend planning
• Creditor protection of corporate profits
• Income splitting and succession planning
• Purify Opco to maintain QSBC status
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Holdco owns Policy & Opco is
Beneficiary
Mr. X
Holdco
Opco
- Owns the policy and pays premiums
- Designated revocable beneficiary
• This structure is implemented to provide creditor protection for the
policy while the life insured is alive
• Avoids tax on disposition should Opco be sold and Holdco wants
to retain ownership of the policy
• CRA made comments that s.15(1) shareholder benefit will not
apply but s. 246(1) benefit could
apply
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What if Opco Reimburses Premiums
to Holdco?
• Tax-free dividends can be paid from Opco to Holdco equal
to premiums paid
• CRA has commented that there will be no 15(1) benefit to
the extent Opco’s reimbursement of premium is included in
Holdco’s income under section 9 or 12(1)(x) of the Act
• Not optimal since results in double tax !!!
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Holdco is Owner & Beneficiary
Mr. X
- Owner, pays premium & beneficiary
Holdco
Opco
• Creditor protection concern is addressed
• No future disposition of policy required if Opco is sold
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Sister Corporations
Mr. X
100%
Owner of policy
& pays premiums
100%
Sister Co
1
Sister Co
2
- beneficiary
• SisterCo 2 reimburses SisterCo 1 for the premiums paid
• CRA comments are the same as Opco reimbursing Holdco for the
premiums
• Results in double tax
• Solution is to insert a Holdco
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Sister Corporations cont’d
Mr. X
Holdco
- owns policy & beneficiary
100%
100%
SisterCo 1
SisterCo 2
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CRA’s Views & Comments
•
CRA is concerned with the ability of a corporation to avoid
having the ACB of a policy grind the CDA credit by having the
death benefit paid to a different corporate entity.
•
It is therefore very important to be able to demonstrate a
bonafide business reason for separating the ownership and
beneficiary designation between two corporate entities.
•
CRA stated it will closely review any situation where a
corporate beneficiary of the policy is different than the
corporate owner and the corporations are under common
control.
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Capital Gains Exemption
Mr. X
100%
Holdco
100%
Opco
• Mr. X is now concerned with his ability to use his CGE now that
Opco has grown in value through profit retention and
accumulated non–business assets
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Capital Gains Exemption cont’d
• No tax incentive excites the interest of an owner of a
small or medium sized business more than the $750,000
lifetime capital gains exemption
• Tax savings of $174,000 per individual shareholder
• 2013 Federal budget announced proposals to increase
exemption to $800,000 for potential tax savings of
$198,000 for disposition of shares after 2013
• Applies to capital gains realized on disposition of qualified
small business corporation share (“QSBCS”) if strict
criteria is met
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The share is a share of a small business
corporation (“SBC”)
1. At the time of disposition 90% or more of the fair market
value of the assets is attributable to assets;
i.
ii.
iii.
Used in an active business carried on primarily (more than 50%)
in Canada
Shares or debt of one or more SBC that are connected to the
corporation, or
A combination of i. and ii.
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Capital Gains Exemption cont’d
2. The share was not owned by anyone other than the
individual or a person or partnership related to the
individual throughout the 24 months preceding the
disposition
3. Throughout the 24 months preceding the disposition, the
share was owned by the individual or a person or
partnership related to the individual & more than 50% of
the fair market value of the assets are attributable to
types of property relevant for the SBC definition
Anti-stacking stringent rule imposes 50% to be 90% for Opco
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Common Corporate Structure
Mr. X
100%
Insurance
policy
Holdco
100%
XYZ Co
• This structure works for creditor proofing XYZ Co
• Creates complications to access capital gains exemption
i. Mr. X needs to sell share of Holdco
ii. Buyer wants XYZ Co not Holdco
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Triangle Structure
Mr. X
100%
99%
Class A shares
Holdco
1%
Insurance policy
Class B shares
XYZ Co
• Excess cash is paid on a regular and continuous basis as a tax-free dividend to
Holdco to the exclusion of Mr. X (assumes no RDTOH in XYZ Co)
• Opco stays “pure” to meet QSBCS status
• Substantially all the value of Opco rests with Mr. X to use his CGE on a sale or death
• 1% FMV held by Holdco so lose ability to use CGE
• What if value of XYZ Co is greater than $750,000? (or $800,000 starting January 1,
2014)
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Corporate Beneficiary Structure
Mr. X
Mrs. X
Son
Daughter
(Beneficiaries)
Family
Trust
Mr. X
$750,000
freeze
shares
Common Shares
XYZ Co
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Holdco
Corporate Beneficiary Structure
cont’d
• Excess cash in XYZ Co is paid on a regular and continuous
basis as dividends to the Family Trust
• Trust is a taxpayer for income tax purposes
• Trust pays tax on income not allocated to beneficiaries
• Trust can allocate dividends and capital gains to beneficiaries
which retain their character
• Trust pays no tax if all income is allocated to beneficiaries
• Allows XYZ Co to stay “pure”
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Corporate Beneficiary Structure
cont’d
• Allows CGE to be multiplied so that each individual
beneficiary can be allocated up to $750,000 capital gains
• Holdco must be connected with XYZ Co to receive tax-fee
dividends (extended definition of “control” in the Act)
• Complications may arise when arms length shareholders are
involved
• $750,000 x 4 individual shareholders = $3M of capital gain
sheltered or $696,000 income tax savings on future sale of
XYZ Co
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Using CDA in an Insurance Financed
Promissory Note (P/N) Buyout
Mr. B
Estate
Mr. A
50%
50%
Opco
- Insurance policy
• Mr. A and Mr. B are partners
• Mr. A dies
• Shareholders Agreement stipulates shares owned by Mr. A are to be
sold to Mr. B after death
• Buyout is funded with life insurance proceeds
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Buyout with Insurance Financed
P/N cont’d
Step 1:
• Mr. B buys shares from the Estate of
Mr. A at FMV for a promissory note
Step 2:
• Opco declares a capital dividend to Mr.
B who uses the proceeds to repay the
promissory note to the Estate
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Insert Holdco to Preserve CDA
Mr. B
Estate
Mr. A
Holdco
50%
50%
Opco
- Insurance policy
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CDA Preservation with Holdco
cont’d
Step 1:
• Mr. B transfers his shares to a newly
incorporated Holdco on a tax deferred basis
Step 2:
• Holdco buys the shares of a Opco from the
Estate of Mr. A at FMV for a promissory note
Step 3:
• Opco declares a capital dividend to Holdco
equal to life insurance proceeds received
Step 4:
• Holdco uses the proceeds to repay
promissory note to Estate of Mr. A
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CDA Preservation with Holdco cont’d
Mr. B
Holdco
100%
Opco
• Mr. B will have to sell Holdco to utilize CGE, if Holdco is a QSBCS
• Can reorganize to crystallize CGE
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CDA Preservation with Holdco
cont’d
• Holdco’s capital dividend account is increased by amount of
capital dividends received by Opco
• Paying down promissory note does not reduce CDA
balance
• Future retained earnings and value of Holdco can be paid
out tax-free via CDA of Holdco to Mr. B
• Capital dividend anti-avoidance rules to consider
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Preserve CDA and Utilize CGE
Mr. B
Estate
Mr. A
Mr. B
FMV = $750,000
Holdco
50%
50%
common shares
Opco
• Allows Mr. B to get bump in ACB by crystallizing CGE
• Holdco will buy out 50% from Estate of Mr. A for a note
• Assumes Opco’s FMV is $1.5M
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Preserve CDA and Multiple CGE
Mr. B, Spouse & Children
(beneficiaries)
Holdco
Mr. B
FMV = $750,000
preference
Estate
Mr. A
Mr. B
Family
Trust
50%
50%
common shares
Opco
•
•
•
•
Beneficiaries can now utilize CGE on future sale of Opco
Trust uses insurances proceeds to buy shares from Mr. A’s Estate
Holdco’s CDA increased via Trust’s capital dividend declared
Holdco pays out future dividends which would otherwise be taxable
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National Estate and Tax Planning Team
Ontario Regional Marketing Centre Resources
• Contact your Canada Life marketing consultant to access your
local national estate and tax planning team:
– Bryan McNulty, LL.B.
– Steven McLeod, LL.B.
– Sandra Napoletano, CA.
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Questions?
Thank you
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