Transferring life insurance to a corporation. CIFP Conference June 13, 2010

Transcription

1 to a corporation CIFP Conference June 13,

2 Even if all or a portion of a life insurance premium is not taxdeductible, the policy should generally be held by a closelyheld corporation rather than personally in order to be able to pay the premiums with the cheapest dollars. This is especially true if the corporation is eligible for the 16.5% (soon to be 15.5%) small business rate in Ontario. The income tax act contains special rules that apply to individuals who transfer policies to non-arm s length corporations. These rules differ for term policies and whole-life policies. 2

3 It is clear, however, that the beneficiary of a corporate owned policy must be a corporation. If a corporation owns a policy on its individual shareholder s life but such individual is the beneficiary, payment of the premiums by the corporation will result in the corporation being considered to have conferred a taxable benefit on the individual (subsection 15(1)). 3

4 Subsection 148(7) deems the proceeds of disposition of a policy to a non-arm s length person to be the value of the policy as defined by subsection 148(9). This value, for tax purposes, is deemed to be equal to the CSV of the policy at the date the policy is surrendered. The real value of the policy might be considerably higher than its CSV if, for example, the person insured has a serious illness. 4

5 Term policies Since a term policy has a zero CSV, the individual who transfers a policy to a non-arm s length corporation will be deemed to receive zero proceeds even if he or she actually receives proceeds equal to FMV, which are a greater amount. Therefore, the individual could receive, from the corporation, cash and/or a promissory note equal to the real value of the policy, without incurring a tax liability. This would allow corporate surplus equal to the cash/promissory note to be extracted at no tax cost. Furthermore, the capital dividend account of the corporation 5

6 would not be impaired when the corporation ultimately receives the life insurance proceeds on the death of the insured: - the cost of the term policy to the corporation would be deemed to be zero (subsection 148(7) even if the corporation were to pay the transferor a greater amount. - therefore, the adjusted cost basis ( ACB ) of the policy to the corporation would not, initially, be increased (item A of the definition of the ACB in subsection 148(9). - therefore the capital dividend account ( CDA ) increment generated on the ultimate receipt, by the corporation, of the life insurance proceeds, would not be decreased by the consideration actually paid (paragraph (d) of the CDA definition in subsection 89(1)). 6

7 Whole-life policies In contrast to term policies, there may be adverse tax implications when an individual transfers a whole-life policy to a non-arm s length corporation, because the value of the policy for tax purposes, per subsection 148(9), is deemed to be equal to its CSV. It the policy s CSV exceeds its adjusted cost basis, the individual will be deemed to have realized a fully taxable gain for tax purposes, on the transfer (subsection 148(1)). Furthermore, the capital dividend account generated in the corporation when it ultimately receives the proceeds of the 7

8 life insurance will be reduced by the CSV at the date of the transfer because the cost of the whole-life policy to the transferee corporation would be the CSV of the policy at the transfer date (subsection 148(7)). Therefore, the ACB of the policy to the corporation would also be increased by that same CSV (item A of the definition of ACB in subsection 148(9)) and the CDA increment generated on the receipt of the proceeds of the policy would be decreased. This is a reasonable result as long as the individual receives consideration equal to that CSV when transferring the policy to the corporation. 8

9 Which corporation should be the beneficiary? Until recently, it was suggested that a subsidiary corporation ( Subco ) could pay the premiums on a policy of which its parent corporation ( Parentco ) was the beneficiary. The purpose was to have Parentco s CDA account ultimately increased by the full proceeds of the policy. This would be the case because, not having paid the premiums, Parentco s ACB of the policy would be zero. The CRA used to condone this practice. 9

10 This CRA s administrative position in the Parentco/Subco structure was hard to understand in light of the fact that if a corporation pays a premium on a policy under which its individual shareholder is the beneficiary, it is obvious that a subsection 15(1) benefit will have been conferred on the shareholder. In fact, the CRA assessed on this basis. The result should not be different simply because Parentco, rather than Parentco s individual shareholder, is the beneficiary; Parentco should be deemed to have received a subsection 15(1) benefit in these circumstances. 10

11 The CRA has changed its administrative stance. At the annual Canadian Tax Foundation conference in November 2009, the CRA indicated that, henceforth, Parentco would be deemed to have received a subsection 15(1) benefit. This new administrative position applies, immediately, to policies issued in 2010 and later. However, in order to give taxpayers time to restructure, the new position will not apply, until 2011, to policies that were issued before

12 Many advisers have always shied away from the Parentco/Subco structure previously described because of their fear of a subsection 15(1) benefit assessment. Some advisers recommended a Parentco/Subco structure with a twist: - Parentco would pay the policy premiums but Subco would be the beneficiary rather than vice versa. If this works, it achieves the same result, because the CDA account of Subco would ultimately be enriched by the full amount of the life insurance proceeds. 12

13 Will it work? It seems that Parentco would be conferring a benefit on Subco. The question is whether or not such benefit is taxable; subsection 15(1) applies when a corporation confers a benefit on a shareholder not when a shareholder confers a benefit on a corporation. At the aforementioned November 2009 conference, the CRA stated that it would apply the GAAR if the purpose of the structure is to maximize the CDA account of the corporate group. 13

14 Is GAAR necessary to sustain the assessment of the benefit conferred by Parentco on Subco? The only other possibility would appear to be section 246. Section 246 applies where a person (Parentco in this case) confers a benefit on a non-arm s length taxpayer (Subco in this case) and the benefit would be included in Subco s income if the amount of the benefit were a payment made directly by the person (Parentco) to the taxpayer ( Subco ). The proper interpretation of the phrase in quotes is not clear to me. Certainly, to date, the CRA has not raised the specter of section 246 as a possible basis for assessment. 14

15 Where a policy is transferred within a corporate group, consideration must be given to whether or not a benefit would be conferred where the policy is to be transferred for consideration that is different from true FMV. For example, where a Subco transfers a policy to its Parentco for less than FMV, Subco has conferred a s.15(1) benefit on Parentco. The same problem might exist on a transfer between sister corporations. A full discussion of this topic is beyond the scope of this presentation. 15