Universal Life. What is Universal Life? The Structure of a Universal Life Policy. A Flexible, Tax-Sheltered Investment Program

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1 Many Canadians consider their Registered Retirement Saving Plan (RRSP) to be their best tax shelter. However, Universal Life (UL) insurance has become an increasingly popular long-term financial planning tool that also offers tax-sheltering benefits. What makes UL insurance so popular is that it combines two essential financial planning components into one package: life insurance and tax-sheltered investment savings. This article will take an in-depth look at how UL insurance works, and why it is a great investment tool to meet any Canadian s financial planning needs. What is Universal Life? A UL policy combines permanent life insurance with an investment savings component. A portion of each deposit is used to pay for the life insurance component, while the balance is invested in a tax-sheltered manner. Upon death, proceeds the investment portion of the policy as well as the death benefit, transfer to the policyholder s beneficiaries tax-free. However, there are also ways to access the investment portion of the policy while living. The Structure of a Universal Life Policy A UL policy has both an and an insurance component. The insurance component consists of funds paid towards the cost of the insurance. Any funds deposited over and above the base insurance costs are invested at the owner s discretion within the investment options offered by the insurance carrier. These options include money market, fixed interest or GIC type funds, and equity based funds that are similar to mutual funds. All of these types of investments accumulate on a tax-free basis. All premiums and accrued interest are paid into the component, and the costs of insurance are paid the component. Excess funds remain in the component and grow tax-free. These excess funds can be accessed via policy or collateral loans, or withdrawals. If you stop paying the basic insurance costs, the funds in the component may be enough to cover the premium payments and maintain the policy. If you surrender the policy, the insurance coverage ceases and the funds in the component are paid out to you, less applicable charges and taxes. A Flexible, Tax-Sheltered Investment Program Similar to an RRSP, investment savings compound tax-free while residing in a UL policy. Investments within the policy grow free of taxes on capital gains, dividends, and interest. Unlike an RRSP, there is no salary-driven maximum that you can contribute to a UL policy. The only constraints on how much you can deposit is the size of the death benefit of the policy. The larger the death benefit, the greater

2 the deposit maximum. This makes a UL policy particularly attractive to high-income earners who have already maximized their RRSP contributions. In addition, the investments are your choice! A wide range of eligible investments can be selected to provide flexibility and control over the management of the savings portion. Creating Tax-Free Retirement Income The investment savings component of a UL policy can also be used to generate tax-free cash during retirement. Structured properly, the policy s investment savings can be used as collateral to secure a series of loans; typically between 75-90% of the cash surrender value. Since the loans are not considered taxable income, you receive the cash free of tax. These loans and accrued interest are repaid upon death, while the balance of the policy, and its death benefit, passes to your named beneficiary tax-free. An Excellent Estate Planning Tool UL policy provides you with lifetime insurance coverage. The policy remains in place until death, eliminating any fear that you will have to requalify for insurance in the future, as is typically the case with term insurance. Proceeds of a UL policy paid to anyone but the estate directly are shielded creditors, free of probate fees, confidential (unlike assets distributed by your estate through a will, which is a public document), cannot be contested, and most importantly, are received free of tax. As a result, UL is an excellent estate planning tool. The policy can be used to offset capital gains taxes on corporate shares, second properties, or taxes on the full value of your RRSPs and RRIFs. An increasing savings portion in a UL policy also means that you can build an increasing insurance benefit, often larger than you might otherwise afford with other kinds of insurance. This can help to offset increasing tax liabilities much more efficiently than term insurance. UL insurance can provide the following advantages: 1) Protection Against Taxes on your RRSP or RRIF: Upon the last death of either you or your spouse, the full value of your registered assets are subject to income tax on your estate tax return.. A UL policy can be structured to pay the proceeds upon the death of the second spouse, thus

3 offsetting the taxes payable and preserving the full value of your assets for your heirs. Significant savings in premium costs are achieved by structuring the UL policy to pay its death benefit upon the death of the last spouse. 2) Protection Against Capital Gains Taxes: Over a lifetime of hard work, many individuals accumulate significant assets such as a business, investments or real estate. Eventually, these assets can be subject to significant capital gains taxes. A UL policy can help those who wish to pass on capital property (such as a ski chalet, family cottage or business interest) without having to liquidate the assets in order to pay the capital gains tax. 3) Tax-Sheltered Investing Outside of a Registered Plan: For individuals who have paid off their mortgages, maximized their RSP contributions and have excess cash flow available for investment, a UL policy can help. It is a savings vehicle that allows you to invest non-registered money on a tax-sheltered basis so as to maximize investment growth and create more income available for retirement. This policy is best suited to high income earners at the top marginal tax rate. 4) Tax-Sheltered Estate Accumulation: Many individuals desire to provide a special bequest at the time of death to benefit a charity, a loved one, to provide education funds for a grandchild, or for any other purpose. A UL policy can alleviate concerns about taxes or probate fees eroding the value of an estate. Such a policy would be suitable for investors concerned about the negative tax consequences of most non-registered investments and for those who want to maintain the liquidity of their assets in order to access the funds during their lifetime. In short a UL policy can allow you to: Set aside funds to cover estimated estate fees and taxes Enjoy attractive returns and tax efficiency Receive tax-free income over a lifetime Protect a small or family-owned business Accumulate a tax-free inheritance for family, heirs and charities With all of its benefits, UL insurance deserves serious consideration by investors

4 Universal Life: How Does It Work? UNIVERSAL Think of two buckets: UNIVERSAL LIFE: LIFE: HOW HOW DOES DOES IT WORK? IT WORK? The death benefit flows to the beneficiary the insurance Think Think of two of two buckets buckets Death Death benefit benefit flows flows to beneficiary to beneficiary insurance insurance Where do my premiums go? Cost Cost of insurance, of insurance, riders riders and policy and policy fee flows fee flows Where do my premiums go? Where do my premiums go? Cost of insurance, riders and policy fee flows If you If you live live Money Money moves moves to insurance to insurance to keep to keep policy policy in force. in force. Excess Excess in in grows grows tax free; tax free; could could later later be used be used as income. as income.

5 If you live: Money moves to insurance to keep policy in force. Excess in grows tax free; could later be used as income. Upon death: The death benefit is paid If to you beneficiary die insurance; contents of go to party stipulated by policy Death benefit is paid to beneficiary insurance; contents of go to party owner. Both amounts are paid to the recipients on a tax-free basis. stipulated by policy owner. Both amounts are paid the recipients on a tax-free basis. If you quit paying premiums If you quit paying premiums: Money in may be sufficient to maintain policy. If policy is surrendered, Money in may insurance be sufficient is eliminated, to and maintain contents policy. of If policy go is to surrendered, owner, less applicable insurance charges. is eliminated, and contents of go to owner, less applicable charges. This summary is brought to you by Raymond James Financial Planning Ltd. (RJFP) for informational purposes only. Statistics and factual data and other information are sources RJFP believes to be reliable but their accuracy cannot be guaranteed. This information is furnished on the basis and understanding that RJFP is to be under no liability whatsoever in respect there of. 5