179. Estate Freeze with Richard Canfield & Henry Wong

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So we want to pass our business and some of our wealth onto the next generation and we want to do it in such a way where it's efficient so that that money's working for the people we love and care about, our family members, et cetera, rather than going to places that we can't control. How do you effectively plan for the taxes on an intergenerational wealth transfer? Well, that's something called estate planning. And joining with my good friend Henry Wong, today we're going to talk about an example of effective estate planning and some of the big pitfalls and landmines you might walk on if you don't have appropriate planning in place. So I'm excited about this topic. I think this is something that's going to add a ton of value to our listeners, Henry. So thanks for going over this with us. For those listening on the audio, make sure that you circle back to the YouTube channel and watch this. Henry's going to display a little bit of information on the screen today, but, you know, definitely be able to follow along on the, the overall gist of just how impactful this type of planning can be. When we're talking about, you know, selling a business and transferring things, whether whether you want them to be transferred or not, the transfer is going to happen, basically, I think is the right way to say it. Right, Henry?

Yeah, absolutely. Thanks for having me here, Richard. And I'm really excited to talk about this topic because there's not a lot of information generally available for Canadians when it comes to this topic. And I will say in terms of what we're going to talk about, it's really oversimplified because this can get very, very detailed and very, very. And everyone's situation is really going to be different because of how, how many people or entities or any what's involved in the equation and where they are at their particular point in journey. But the main part that I want to highlight for everyone who's going through this topic, as we've talked initially in a previous podcast, related to deemed disposition for a business owner. And that is exit plan, believe it or not that a business owner has, whether it's planned or planned, the circumstances can be quite large for it. But there's other different exit plans that a business owner may encounter which is by let's say even a third party sale, meaning they want to sell their business outside of their, their, you know, their family or they want to sell it or a child wants to take the business. Whatever the exit plan is. Most of the time when I find myself in terms of dealing with business owners is that's not front of mind for them to think about. They're more focused on their current day operations or the next hurdle that they're going over, but they're not thinking about the long term endgame. And this is where what we're going to talk about is that end game to ensure that a lot more related to what is built by the family is kept within the family.

Well, and I think it's important to understand that the more successful you are at growing your business or building up amounts of wealth in the process of doing that, whether it's through, let's say the acquisition of land or buildings or real estate that you might have that support or tie to your business, etc over time, these things that are good strategic decisions, most likely that I've really helped you in your business world, they also have this double edged effect where they could create a really monstrous tax problem unnecessarily and the devil, and this is an area where the devil's in the details I guess because you know, we've got this, you know, giant thing called a tax code book and it gives you all the rules about how you can, you know, manage that system. So you can only pay your fair share. But you have to know what those rules are, you have to know where to find them. And so that's where good professional advice is critical, critically important. And of course we love working with accounting professionals to, to be able to assist them in servicing the client the best way possible. So we can maximize what's available to the client and their family.

Yeah. And if we take a step back and look at the overall objectives of a corporate business owner, in all honesty, whether they say it or not, their objective is to increase value. So to the business or the asset that they're building. And the increase in value can come in different forms. It can come in the form of property as like a real estate asset that is held in there, whether it's a manufacturing facility or a multi residential Real estate or it can come in the form which, which there's a hard tangible asset that generates. But the key part is it's generating cash flow from that. The other elements include things like equipment, equipment or cranes or whatever that their ways of developing business. Some people have pizza vehicles that they rent and they earn income from that. So those are assets.

If you're a dentist or a doctor and you have like X ray machines and in that sort of equipment that that sort of stuff would be included in there as well.

Yeah. Or, or you have a digital business like an E commerce business that you are selling products or selling digital products online. Those are all going to be cash generating items that essentially formulate an asset or a value that if you were to transition that to someone, there is some component that you're not going to accept nothing for. You're going to accept something of much higher value of. And this is where the wonderful tax code will introduce itself because what you started that value with is likely very low to nothing. And you, through your sweat equity, your time, your other capital that you've invested have increased that value. And as you increase that value significantly, that disparity between what you paid for and what you've built up to gets so large that if you do not intervene and make the property structured decisions to plant, make a plan in place, a large portion of that could go to other people's hands, mainly the cra. If you're not properly structured and planned in place for that. Awesome.

Well, let's, let's dive into this and I know you've got a great example for us. There's some foundational knowledge you want to make sure gets conveyed before we, of course we go up to that example. Henry. So where's a good place for us to start really unpacking this for our listeners for sure.

And so I'm not going to go into, diving into what's called an estate plan and the details of that estate plan. So in our previous podcast we've gone through talking about things related to a deemed disposition of a business owner. We've talked about introducing a holding company. Now we're kind of talking about a little bit more of the structural environment. And part of that is once you've introduced, there's a reason why you introduce a structured environment. One of that is if you, if and when you want to transition what you've built to someone else and believe it or not, when you're transitioning this asset that you've built with a high amount of value, that does not get to, if you want to transfer to your children, it does not transfer to your children tax free. There, there is no specific tax codes that exist for a pure transfer to your children. And this is so counterintuitive for a lot of people, except farmers and some other very specific groups. But for all a majority of Canadians, if you want to transfer the value of some asset or property that you've built to your children, there will be a taxable event. And that's the spot that we're going to talk about today, which is how do you transfer the value that you've built to your children in a tax effective way? And this is using a very specific mechanism called an estate freeze. Now an estate freeze is a tax planning strategy where business owners can transfer future growth and their value of their assets, usually in the shares of companies, to their next generation. And what that means is freezing whatever the value the shares are at this time, at a specific point in time, and then transferring that future growth, whether you're working on that growth or your children are working on that growth to continue that growth journey on that asset. That is not really as much as the details, but you're trying to essentially tap the growth at where you are so that you can transfer that growth to the, to make it a problem for your future generation and, and roll it over to them in a very effective way. And that's what the estate freeze is going to do.

And one of the key features of that is I like how you identified, you know, the freeze is freezing a point in time and, and the value of things in a point in time. And so what you're dealing with is your work, your effort up to the, the point of the freeze. And you're now dealing with like a known tax event. You can actually determine and essentially crystallize that tax event to be a known value. And now you're from that point moving forward, you're back into an unknown value. But you're, you're now able to spread that taxable event over more bodies to some degree as you look at transitioning things on the assets, the business, etc.

Yeah, so it's more bodies and length of time. So you're kind of pushing the value forward and crystallizing it into a very particular part of the generation that you're moving into so that you're still retaining that value and dealing with the legalized consequences of taxes when it comes to dealing with that. So what are the benefits of doing an estate freeze transaction? Well, the first is by initiating this process, it Facilitates a smooth and orderly transition of ownership and control to the next generation. If you don't intervene with an estate freeze transaction, then other people get involved. Like let's say, I'm just throwing this out there. Probate or government or other kind of bodies will intervene. Creditors, perhaps creditors, they will intervene and their.

Own objectives to figure out what the proper distribution is. Whereas you, in the time that you have, if it's important to you, will look at how can I solve this problem? Because I know eventually I'm going to pass away. I know eventually. But one of the things for a lot that a lot of people take for granted is they actually may not even know. We don't know when our best before day is. And it's actually really important that we, it would be more prudent for you to go through doing this process and setting up the structure and environment for you so that when that unpredictable event happens by accident, you don't have that unnecessary intervention you want to. At least if an accident were to happen to you, there is a sequence of steps in place to ensure the transitions that move to the family is done in a controlled manner. And as part of that esteem estate freeze transaction that is going to involve a very special element in the tax code called the capital gains exemption. And in Canada, every business owner has an ability to have, not do not have to pay taxes on capital gains. And in 2023 the amount is 971,190. So that amount you can build value in whatever that asset is for shares up to that amount where you do not need to pay taxes for. It's just like when you own a principal residence and you sell it for a higher value, you have a principal residence exemption provided you didn't taint your property. By doing things with that property similar to corporations and shares, you can taint that capital gains exemption. And obviously the objective of every business owner that wants to exit a business, either by deliberate, deliberate choice or not, they want to have the ability to utilize that capital gains exemption. Because that's big. That's big.

Well, I mean the fact that we're going to be able to give people maybe not a full on guide on how to do that, but at least give them the awareness on how they can go about creating those necessary steps. I think today is really tremendous. So I'm excited as we delve deeper into this. Henry.

Yeah, and the point is not for you to take this knowledge and go do it yourself type of thing because tax code is extremely complex. It's created by the government and the laws by how it's been created. But what you now know of is there's a capital gains exemption that you can take advantage of and how do you preserve and make sure you take advantage of it? That's the first part that we're, that's one part we're going to go over today. The other benefits of doing an estate freeze transaction is if structurally we talked about in a previous podcast of a lot of business owners just have a hold code, why would you introduce another corporation in your corporate environment? The other is to creditor protect your operating company from the assets from that creditor, whether it's by lawsuit or by a loan that you may have. And a lot what in terms of a plan in place, how do you structure something like this is making sure that the operating company has the minimal amount of resources it needs to operate while the real resources are shelled somewhere else away from harm. And that's where again, part of the estate plan includes sheltering and protecting against creditors.

I'll give you just to give an example of that. So you have an operating business and that business is generating good cash flow. It has 500 grand of cash sitting in the bank account, but it only really needs, you know, let's say in a rolling 90 or 120 day period, maybe only needs a hundred thousand dollars. So it's got $400,000 of essentially of excess cash sitting there waiting to do something. Well, in the event that there is, you know, a bit, the business owner dies or something, at that point there's a lot of extra, you know, cash sitting on the books that maybe could have been sitting somewhere else like in a holding company. And that also could be an asset of real estate. Maybe you bought a building for your dental practice and you're running your practice out of there. But if it's owned by the operating company, will now it's accumulated and raised in value. We've owned it for 10 years or 15 years and it's the value has gone up substantially that's dragging down. You know, it's a, it's a resource that's underutilized capital essentially, which is going to mess up your, your exemption if you don't, you know, move it out properly. So there's a strategic way, working with an accounting professional that you would go about, I think the correct term, correct me if I'm wrong here, Henry, but of purifying the operating company by transitioning these other assets out of operating company into effectively another company, which would be a holding company.

Yeah. So a couple of things just to unpack there, Richard, is that if you, you know, if we think of how a general business operation works, it collects revenue, it then pays expenses, there's a net profit. And that net profit, let's just assume, is cash. What a lot of business owners do is while they have that choice, where we talked about in one of our podcasts, active income versus passive income, where they park their money and what they do with it, there's a series of rules that ends up getting attracted. If they pull it out in salaries, they'll get a tax a certain way. They pull it on dividends, they get taxed a certain way. Well, if you leave cash or you leave it in some form of an investment like a GIC product or even a life insurance, a cash value life insurance product if it's sitting in an operating company, these elements are non productive to the operations of the company in the definition of the tax code. Of course, we can use the cash values in a very particular way that we coach our clients through, but those are specifically non productive ways that will taint the capital gains exemption. So as you mentioned, the general lingo is used is to purify the business. Meaning, well, if you have only an operating company that is holding onto those, I'll call it unproductive assets, how can you purify it? The only way you can purify it is to withdraw all the cash or do something so that there's no way of tainting the tests to meet the capital gains exemption. And that's where all this corporate environment structuring starts coming in to ensure that you maintain the eligibility of that capital gains exemption.

And, and, and the holding company, if you do move these assets out to a holding company or restructure it as necessary. So now, now the, the OPCO has the minimal amount of unproductive resources and those have been shifted out. So now you, you're, you're able to participate in that capital gains exemption. Whereas in the Holdco environment, because those were assets, it's not, and it's not operating in that nature, it didn't qualify for the lifetime capital gains exemption anyway. Am I getting that correct, Henry?

Now we've kind of laid out the stage of what an estate freeze is or maybe what the objective of introducing different corporate structures in the environment. What I now want to talk about is because we'll face people who are very proactive and there's also people who are not so proactive. And so I kind of started with the people who are not so proactive. Let's talk about the people who are too proactive. And the problem is some people who find a business idea that is really great for them, however is still. You know, I'm just trying to be direct in this conversation here is it needs to prove viability on a sustainable standpoint. There's some people who want to start a business and immediately they want to have the most complex organization structure or yada yada. You're like, should I have a whole co company right now, should I have a trust? All this stuff right away. And their business hasn't reached a stage where it can actually support it. And so that's where I talked about at a whole co company. Sorry. When you want to start probably thinking about Holcos, if you know you have a sustainable profit consistently for of about at least 100,000 and today's time, 100,000 is still, believe it or not, not a lot of money for some businesses. But nonetheless that's just a numerical benchmark just to share with there. So when is the right time to do it? Well, this is where the best is when there's a predictable sustainable level of viability to the business and there's a clear demonstration of value. And that value demonstration is very difficult different for different organizations. So some people who are real estate agents as an example, who has created a real estate corporation to transact their.

Real estate dealings in that way. Well, the value is really just the individual. Whereas there's some where there's a business owner who owns a manufacturing facility with equipment with skilled labor trained and that business owner is not there, it'll still be a very heavy impact. But the business as a model is someone has the capability of the business owner steps in, same production, same thing, still operates. So the part going back is when is the best time to do it is when the value of your business is actually increased. And you will have an idea of what that is either in form of your consistent increase of profits or some form like that. And you are looking to. And you're actually. Even if you have made thoughts of what do I do with this business, where it is today and what am I going to do with it in the future. And if that involves exiting third party or transitioning to children or when you pass away, which are generally the three avenues, that's when you actually need to start this estate planning process. And the reason or the estate freeze process, sorry. And the reason for doing that is because the longer you delay there needs to be amount of time that the shareholders can be involved. If you do it too last minute, you won't be able to meet the justification of what I'm going to share with you today of including other shareholders into the estate plan structure. And there's a very important reason of doing that as I'm going to describe to because if you do it too late, it delays by you delaying bringing them in, the value of that business may not have the opportunity to grow under their hands and, and under those their hands they may not be able to get to utilize the strategies that we're going to talk about when it comes to an estate plan. There's a few, I'm just going to share my screen. There's a few common structures and this is by no means a template of an example. For every single situation there still needs to be a very in depth process to understand the individual's circumstances and where they are in their journey today. So I'm just going to share my screen. So the first one just to unpack is related to just a general one where there's a company and in the company, this was the original founder, they're going to implement an estate freeze and they're going to freeze the value of their shares for a particular type of shares and the most particular type is preferred shares. Not going to go into all of that detail here, just not to lose the, you know, attention and then they will do a specific tax maneuver that will give the growth shares to that new generation of family members. So this doesn't include additional corporate structures or anything. This is just a, like this past, this possibility exists. I'm just wanting to share what, what that possibility is. The second one.

Is now we kind of talked about it in a previous podcast where we introduced a holding company and the holding company is going to own those frozen set of shares. The founder is going to own the growth or the common shares of the holding company and then the new, the next generation is going to own the growth shares and it's going to go to them. So this is an example of raising the value of the current owner of those shares today and transitioning the untapped potential of where that business value is going to go in the future to that next generation where we are doing that time and movement part.

And in this situation, Henry, the founder who's now implemented Holdco and Holdco owns the frozen shares. The founder could also own shares in the future growth of the business from that estate freeze point. So they have everything up to the estate freeze and then they can also participate in future growth. But now there's a. There's an independent tax bill. So that's a way where they could transition. You know, they're transitioning to the next generation, but they're also doing it more on an incremental basis would be a way of establishing that. Am I on, on track?

Yeah. So this is where things can get really complicated with the kind of share types that are being owned and transferred. But ultimately, just to kind of keep it a little simple, all I just wanted to show was there's a new introduction of another corporate structure to help with the tax maneuvers that would help happen. Again, Richard, as you just shared, this is where the devil is in the details to the situation and the goals and objectives of the founders and the family and all of that. That actually has to be taken into consideration. That's why this can't be templated. This is very. I would definitely leave this in the hands of very experienced tax professionals. The last one, again, people will hear, see this on Internet and all this stuff that gets, you know, marketed. And this is where there's an introduction of a trust structure. And a trust structure has other elements that include.

Where this is a very important element if those family members want to be involved and, and they can. Now you can do something where. This is where the strategic planning of, if you delay it too long, it impacts the ability to transition the growth to these individuals. But if you do it in a good amount of time, this is where you want to have that trust structure in place. And that trust structure, beneficiaries include family members at a personal level, and it can include corporate beneficiaries like a holding company at that level too. So this is where, again, the devil is still very much in the details who owns what. And this is where I will also share in terms of a trust, specifically, the lingo that is written in the trust agreements and the type of arrangement that is described in the trust is also very, very important. And, and there are terms like settler. I'm not going to go through those details, but settler, trustees, beneficiaries, and there's also disc. Discretionary, non discretionary. There's a whole bunch of other legalese terms that when it comes to the implementation, it's not as simple as, you know, the diagram makes it really simple because pictures, say a thousand words. But the layers behind the diagram and how it's been architected with the specific language that is very, very key and again, beyond the scope of this podcast, but just highlighting that why this can get very, very complicated in if. And the Implications to you can be very detrimental if not handled properly. So this is kind of where. Now I want to talk about using a very specific example. I'm just going to show a family here of five, two parents and three children and even potentially grandparents. So there's a family of seven here, but I'm not going to include the family of seven. I'm just kind of keeping a little bit of a simple example. But I'm just showing you that you have to take into consideration the overall family. Now, I will still go through the example, just a separate example, but I'm just sharing that you've got a corporate environment and then you've got a personal environment that needs to be included in this equation. So let's just use an example with the business related to an estate freeze. So an estate freeze where let's assume the business has increased in its value to 3.9 million. And this is where a lot of Canadians, if they have not had professional intervention, this is what can happen when they want to sell the business or if they've gotten an accident and become an angel a good way. This is if they were unplanned. And this is what would happen now if they did not have professional intervention. The example here that I'm showing with you is every again, every Canadian who owns shares can have private company shares can have this lifetime capital gains exemption. This is what happens if you do not meet it because you have too much cash, let's say, parked in the company or too much unproductive assets.

Most people who start a corporation who start the business will pay a nominal amount, let's say $100 for the shares. And in this case, when a sale happens, that disposition happens. The gain is going to be 3.9. Subtract the cost of those shares, which is 100. The capital gain is 3, 899-900. And again, because there's no capital gains exemption, the taxes paid on this event would be 1,043,808, which is 26% of the $3.9 million. And the calculation this is using Ontario as the example. 3.899 is the gain. 50% is taxable, and then in the highest tax bracket in Canada is 53 point. Sorry, in Ontario is 53.53. So that's what that 1 million is.

So ultimately, after you've received 3.9 million in the sale, you've got to pay the government 1,043,000. What's left in your pocket is 2.8 million.

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Now on that note, Henry, I think what's really important about this is, you know, again, you're showing the worst case scenario if we haven't done some good planning and we're not able to take advantage specifically of the lifetime capital gains exemption in this case for the business owner. And this is very common, I think, for a lot of businesses who, you know, especially the mom and pop operations, they've done some things successfully. And you know, as a business owner, you're just busy, busy, busy, busy, busy, busy, busy. And then these things just get put off to the wayside and they never really get dealt with until it's kind of too late. And so what I think is really important about this case that you're showing is, is that the, the capital gain is that value increase in the business. Now, the value of 3.9 million that you're showing. There could be many things that create that value. The customer base, the goodwill, the cash on the books. Maybe there's an insurance policy in the operating company that shouldn't, probably shouldn't have been there in the first place. Maybe there's a. There's this built, the manufacturing, building the equipment. It's all these things. Now some of those things, even though it's the value of the business, some of those things may need to be paid for. So in order to pay this tax bill, the business owner or the family of the business owner, the business owner has passed away. They may have to start selling off all these assets at a discounted price or quote unquote, a liquidation price so they can raise the money necessary just to pay the tax bill. And, and then the, the business value might have been at the time of death 3.9. But once the business owner is gone, the value might drop because the business owner is no longer there. And then, and then employees might leave and then everything gets precipitously worse. But we're paying tax on the value of the business at the day that the business owner died, not the value six months later when the business owner is gone and everyone's left around fumbling to pick up the pieces of what's left. And that's where a lot of business owners really, we see their life effort, you know, dismantled unfortunately because of a lack of planning.

This is very, very true. So in the element of the exit being an unforced event like a deemed disposition at death, that is the worst case. The first event is they have built the value at that time. Deemed disposition is considered fair market value at that time. But they don't consider the events, the series of events that happen afterwards and the value of that business afterwards. Where employees are scrambling, the customers are lost, there's no more intellectual understanding of how to run the business anymore. The value may not be there anymore. And then the family members are stuck with dealing with whatever they can in that event. And that's not a good place to be.

Now there's also other circumstances again because we live in a world where no one's path is exactly the same.

Sometimes other professionals may be involved, like yeah, they have an accountant who deals with their tax compliance. They have an insurance advisor who has given them insurance and talked about the importance of insuring it. But they never connected the dots and, and putting it together. And that's where that's also a problem where they've built a policy of, let's say they understand a high cash value policy and that has done that does do really good things for the business. The only problem is that it was structured positionally in the wrong place. And there hasn't been a change in environment because of a change in circumstances. And that event with good intentions have set up was set up for the for good intentions. However, that has as a consequence impacted their lifetime capital gains exemption. That was not a full win. The business owner didn't get a full win win in that situation. And I've personally seen this as part of our process that we go through when we meet people, we do a deep dive to understand exactly how this, how you are structured from an income asset liability standpoint, personal standpoint and a corporate standpoint and everything in between. The next stage is, well, let's just say that's the worst case scenario. And maybe the business didn't get into the circumstances where they lost their capital gains exemption. Well then this is where they can have have this is the impact of if they have the capital gains exemption and let me just use it with two people. So I'll actually if, if there can be a switch with how I just described something. One of the things that I wanted to further describe is when you are getting an offer for sale of a business, there's usually a time period for that offer of sale. Imagine if you were not properly set up to to receive offers for sale of a business to exit. Then how are you going to untaint your business to get take advantage of the capital gains exemption? That's not going to work that way too. So aside from deemed disposition at death, there's also offer of sale. And if your business is not properly cleaned for a transfer of sale, then you're, you're going to be stuck with an unfair position in the deal.

Now going back to the capital gains exemption and now this is with two people. Let's just say husband and wife own 50, 50 of the shares of the operating company and there is a capital gains of again $100 for the shares. $50, $50. So the capital gain is 3899900 with the lifetime capital gains exemption. Again the amount in 2023, which rises each year generally around with CPI is 971, 190. So for two people, that combined amount exemption is $1.9 million. So the net taxable amount, if I subtract 3.89, subtract the 1.9, what's taxable is 1957520. So the taxes paid on that is 523930 or 13.43%, which is the 1950 times 50% times 63 53%. So if I subtract the proceeds or the offer of how much you receive, the 3.9 subtract the taxes that gets paid 5 23, 930. The net taxes is 3376070, so much higher than before, mainly because of that capital gains exemption.

So, so just to recap on this, Henry, so example one that we went through is the worst case. We had too many other assets and things that were, you know, not considered productive from a tax perspective. We lost the capital gains exemption for the, for both of those people in this example, they implemented some planning. The operating business that's being sold, the business being sold now qualifies for the capital gains exemption. And because there's two people, so most likely either business partners or let's say husband and wife, you know, spouses, they're both able to qualify individually for that capital gains exemption. They each get 971 grand capital gains exemption. We join that together for, you know, a little over 1.9 million. That means we can take the business value, subtract the total capital gains exemption that's able to be used, and then the net remainder is what actually is going to have to Pay tax. So we've gone from example one kind of the worst case situation in this, you know, $3.9 million business to roughly paying almost half or maybe even, maybe even more than like less than half of the tax than we did in the first example. Just by making sure that the, the things that are left in the corporation are the right type of things so that they can maximize that value. Did I get that correct?

Correct. So the main part for the key takeaway is as a business owner, you want to have the lifetime capital gains exemption and understand what you need to do to preserve that exemption. Because who wants to pay more taxes? I. If you were to ask that into a crowd, I don't think many hands would go up.

I've actually done that a time or two and you're right, not very many hands go up.

Now the third example that I'm going to do is here is where there's a professional plan in place, how that plan got laid out. There's an estate freeze that happens. Okay, how if they had multiple other corporations, a trust, whatever, all that jazz doesn't matter. The key part that I just wanted to highlight is there's a post freeze that has happened and this is including a tax plan with two children.

So the capital gain is still 3.8999900. But this is why you want to introduce an estate freeze in a reasonable time frame on your situation and circumstance of that. And before I kind of dive into this, the problem that exists, in my opinion in the marketplace is the team of professionals that the business owner may have with them may not trigger that conversation. When business owners come to us, one of the. Because of. By virtue of the process that we go through to determine insurable needs and other goals and objectives as it pertains to becoming your own banker. This is where something like this gets flagged and identified as an opportunity for the business owner. And I would be going through these conversations with the business owner to talk to them about. Have you considered about. And you know, by virtue of becoming your own banker, we build a family banking system. That objective already is really kind of aligned with now putting that Sammy banking system in the right operating structure in Canada, which includes that corporate environment. And that's where I get the opportunity to ask the question and I can see from how they're structured, have they considered doing a proper estate freeze or plan in place to pass on the wealth that they're building to to their next generation?

So the first part is by virtue of what we do, they will come to us from that aspect and that opportunity gets flagged. The other is the business owner will do it other ways is very less likely if someone is to prompt them to tell them to think about an estate freeze. Because in all honesty, if a professional was to come to which we know involves a general tax practitioner, a lawyer, a business valuator, so three professionals in that general equation, those three professionals have some fees that they would be charging and that ultimately ends up as a bill of over five, generally around the five figure mark and above. Again depending on the level of complexity that gets involved. So someone approaching you, Richard, for a five figure professional fee without the context of being educated of what an estate freeze is, I'd show you the door no faster than, you know, the split second that I can.

Well, well not only that, I think what you're speaking to Henry, is the difference between proactive versus reactive. And unfortunately there's a lot of circumstances in life where we are often in a reaction mode where something has already happened and now we're picking up the pieces. And, and when it comes to, you know, planning, certainly tax planning, you know, I think every business owner wants to have proactive tax planning, but they end up with reactive tax planning is generally the case. And it's not nothing against any tax professional. I think most tax professionals in a, in a perfect world, they would love to provide proactive tax planning, but they can also only work with what they're given with. And so we're kind of in this like chicken in an egg scenario with the business owner and the tax professional who's got an obligation and dates and due dates and a very busy tax season and the, the, the business owner who wants, you know, 100 billion things done and they're asking questions, the professional, but they're usually asking at the wrong time and, and they don't really get that planning sorted out necessarily. And so generally in my experience, just, just me personally, I haven't found that a lot of accountants, although wonderful and amazing people, they're often reaching out and saying, hey, by the way, I'm looking at doing your financial statements and I notice you've got all these assets here sitting in Hopgo. We should have a meeting as soon as we get this filed. We should have a meeting about planning an estate freeze. You know, so those are the types of things that you're looking for. But pretty probably, you know, it's probably few and far between where that actually proactively happens. And it's really, you know, I don't think it's anyone's necessary fault. It's just the fact that we don't know and understand and as a business owner we often don't know what to ask for. So if you ask for it and you know what you're asking for, part of this podcast will hopefully give you some indication when it's appropriate to do that you can start putting these things in place to protect yourself.

Yeah. And that, that is the objective of this podcast was to help educate the listeners to get a grasp that there's actually first, by taking no action, you can already see that there's a potential of heavy consequence in place. By taking the time to get educated, at least you now have it in the back of your mind that, hey, I remember that there's an option available and then I can talk to my tax professional or my team of financial advisors to explain whether or not this is suitable for me at a, at the specific standpoint. So that's what I wanted to first highlight. Now let's dive into this part where when you properly structure an estate freeze, this is again by choice and option, not everyone will take this advantage is you can pool your capital gains exemption and if you give enough time, that's why you can make it valid and legitimate. So by pooling it together so that business value is 3.9 million. The capital gains is 3.899900. If I take the 971190 of the four family members who are part being pooled for the capital gains exemption, that's 3.884760. So the net taxable ends up being 15,140. So the tax is paid is $0. I'm just keeping it very simple, $0. And ultimately the net tax, sorry, net after tax proceeds to the family on the exit of the business, whatever that way is, is 3.9 million. So just summarizing all of that together again, the sale of the business, 3.9. Worst case, without proper scrubbing and ineligibility of the lifetime capital gains exemption, the business owner or family is left with 2.8 million. If there is a lifetime capital gains exemption and the business is pure enough to be eligible for it, is 3.3 million. And with proper structured planning in place is 3.9 million. Which is pretty much eliminated the tax event from proper tax planning with being proactive with the situation.

Now a question I have for you on this Henry, and I'm just curious. So you, you in the, in the estate plan model you showed we've got the husband and wife or the, the parents and then we've got two children. And so what if the children are under the age of majority at the time that that planning is put into place? Does that have any particular effect on this? Can you walk us through that?

So that part includes, that's why there's potentially that, that's why you would include the trust. And with the trust. So let me take a step back. Back in 2018, the government introduced the tax on split income that prevented minors from being part of corporate organization structures, but it still didn't limit the ability of the trust to do the things that it needed to do. And if they're part of the beneficiary group of the trust, and if you structure the trust with the right terminology, then you can describe how to transfer the benefits to the children in a tax effective way. So there's, I'm not saying there's ways, I don't want to say that there's ways around it as a negative way of doing it. But what is available to Canadians with the proper advice, you can actually include things in that way. Again, the rule was brought in because they didn't like that the overall structure included income planning for minors. And you know.

People'S opinions on that differ. But nonetheless, I'll just say that for what it is there.

So the summary is whether they're adult children or minor children, tax planning can be done effectively to maximize the utilization of a capital gains exemption for all parties involved.

Correct.

With, with appropriate planning. And that's, that's the key takeaway. So thank, thank you for that. I think that's a, I'm glad that I asked that question because I think that's gonna be very beneficial for, for our listeners. And you know, so, so now, and a question I have for you kind of on this next is the estate freeze is completed and done. And this our example here. We're looking at the value of the business is the same. The value of the business hasn't changed here. Let's assume for a moment that the business value of 3.9 that we've walked through is the case. And now we go 10 years out and the business owner, the original business owner, the founder, you know, they've moved on, they're in their honeymoon period of life. Okay. And the children, let's say, have taken over the business in this situation, or maybe it's a family farm or what have you. And now the business has grown again and it's grown, let's say another million dollars. And now they look to, to Sell it at that point. So that the original value estate planning is, has already kind of locked in where we're at. And now that additional increase in value of an extra million dollars that would now attract tax at a different point because we've, we've set the adjusted cost basis now at 3.9 million effectively. And now we're only going to be dealing with the gain over and above that level for the, for the new ownership structure. Am I on track there?

Yeah. So I'll just be a little bit more specific. So if it was set up properly, the parents would state, retain their frozen value of what that gain was and if that business value jumped from 3.9 to 10 million, but is now the share, those value of those shares were in the hands of the children. I'm just keeping this example really simple that now the children have to deal with 3.9 to the 10 million on those, on that element. And that's a different ball game to deal with when it comes to estate planning and everything like that. But that's effectively what you're trying to like. What the state freeze for this current generation did was to freeze it on the parents for that value. And then the 3.9 to the 10 is frozen, sorry, not frozen yet, but it's been handed off to the next generation to deal with.

All right. So I mean, one of the reasons why I asked the question was just to preempt, I guess, the, the, you know, one of Nelson Nash's golden rules, which is you got to think long range. Nelson said you got to learn how to think beyond your own lifespan. And in this scenario, one of the ways that you would do that is starting to think about, okay, now that we've done this freeze, we still have the business, we're still either tied or connected to it in some way, or the family is, or whether it's a family farm or whatever that that is that we're looking at, there's going to be secondary second layer generational tax planning that still needs to happen so that on an ongoing basis, you know, you can create some continuity of maximizing the retention of the wealth that you're building up. And the same premise of the, the operating company being, I guess as we identified, purified in such a way where there's not from a tax perspective what, what the CRA would indicate as non productive assets, even though some of the assets you mentioned, you know, we might feel differently about how we would label those assets. Specifically the cash value also to me is very productive. But from a tax Perspective, it's not considered that way in relation to the capital gains exemption. So I think that's the summary point I want to have is that when we're looking specifically at the lifetime capital gains exemption that's available to Canadian business owners, certain items that might sit on the books in the balance sheet of your business may deteriorate your ability to qualify for that. And the, and the terminology that's used by the tax code is non productive assets. And so being able to make sure that those aren't sitting in the operating company, in fact they're sitting somewhere else, is effectively the direction that you want to be as you continue building your wealth along this path.

Yeah, and this is kind of the stuff that we talk about in our new book.

Keep taxes away from your wealth that.

We'Ve launched. And this is not very specific to like what we're talking about is very specific. It's not possible to be dealt with in the easy read that we've developed here, but we've summarized the mechanisms. Essentially we are using a multitude of the five strategies of deferring the fighting, changing the definition and all designing and I haven't talked about the disconnect yet. So this estate freeze already incorporates all four of those elements all together in terms of keeping taxes away from your wealth, transferring your legacy that you've built to this generation, to the next generation effectively. And as you mentioned, there's other generations that need to be taken into consideration in this overall mechanism.

And then the implementation of the fifth D only just it's like icing on the cake. But it's like a bunch of tax free icing on the cake when I get that an okay description, tax free.

Icing with a cherry on top. And this is the one where I'll talk about the disconnect. So one of the things that again, if you seek a insurance advisor professional who may not have the scope of understanding of the tax codes and the rules around all that, or you speak to a specific tax professional who doesn't understand the insurance component. Round two. This is where you know, the world doesn't operate in silos. The world operates with many moving parts working together. And that's why it's important to incorporate what we kind of talk about specifically of that family banking system. Now again, I've run into experiences watching seeing clients current structure where an insurance policy was placed and nothing wrong with that placement. However, in the circumstances of the goals and objectives in the long term, some maneuvers need to happen to change that circumstance. And it's important that those updates happen. And even when you have one estate freeze happen, and maybe just by the grace of goodness in this universe, that in two years that 3.9 that you transferred to your children suddenly became 7 million. Now you have to engage into another type of plan in place to figure out what to do there. There is no. It's not based on time, it's based on value that was created by that business as you've gone through this journey. And like it or not, it's a good problem to have. But that means there's just a lot more work that needs to be involved. But going back to all of this is when you work with our team here, we really look at the overall circumstances and we want to look at things holistically. And this is where I want to now bring in that disconnect element on the family banking system with that estate freeze. Because corporate business owners will get approached to do the estate freeze. But there could be some slight differences that can change because we're looking at implementing the family banking system that will enhance the estate freeze even better and that could change how you organize your estate freeze. So I'll just kind of use a very. But nonetheless, what I wanted to highlight is some of the advantages of including a participating dividend paying whole life insurance policy. Not many professionals understand that placement of that type of policy. But let me kind of walk through that here. So on the left side, we kind of have a current estate plan that is created. And if you want to extract money from the estate in the form of the corporation right now, let's say, and you want to take money out, most people are aware of, you can take a salary and I'm using 100,000 as an example. The general taxes you would pay on withdrawing 100,000 out is 27,000. If you take it in the form of a salary, you can also take it in the form of a dividend, which would be about $16,000.

Okay.

This is not about what's better, salary or dividend. The key is to get money out in the corporate environment to the personal environment. There's going to trigger taxable debt. Now if you include the process of becoming your own banker, I mean you can take the option of a salary, you can take the option of a dividend. However, based on when the corporate owner has passed away, which is part of the planning that we do, especially for the. I'll call this second generation family who's come to us and we've go through this conversation, they're like, hey, I want to Build my family banking system. Can I build a system of policies on my grandparents, sorry, on my parents, because they're going to pass away first. Can we start planning their estate too and include this process as part of it? Well, because in, in very plain speak, they're going to be the ones to pass away first. We want to make room for windfalls, we want to make room for more taking into preparation of all the other obligations that they have. So let's just say the death benefit occurs of $5 million that has come to that corporate plan by virtue of the death benefit. I'm using very simplified numbers to explain the points, but I'm not, you know, this is again, just for educational purposes. There will be a creation of a capital dividend of 4.5 million. Again, very simplified numbers. It could be different numbers along the way, but nonetheless, I'm using 4.5 as that. And with that 4.5, it's basically a bridge that's been created in the tax code to allow.

The family to extract money in the form of capital dividend. Again, if you've done the estate plan properly, or these and these, sorry, the estate freeze properly for the plan, then you can have proper mechanisms in place to document how capital. Because capital dividends have to be documented in the tax code to come out for the tax reviewers. But you can extract money out tax free. So that's 4.5 million that you can extract tax free. And if you imagine the, the parents are the. I'm just going to use grand. Yeah, the parents are the ones who have passed away, created the death benefit. There's now a capital dividend in the plan. Now they can individually, if they lived off of. And this is very, this is what I work with a lot of my clients with, is to create this plan. They, if they were surviving off a hundred ousand, well, that 4.5 million, they can pull off $100,000 each year tax free. And that to me is very exciting. And unfortunately, a lot of professionals are not aware of the huge opportunity that is available with this capital dividend account.

So the, the summary here is that when you incorporate all the estate planning thought process and the, the tax planning thought process around the advantage of estate freeze when needed, when necessary, with appropriate insurance planning. In other words, we're not, you're not separating your tax planning from your insurance planning. When we're talking about this level, at this level, these things need to be openly discussed and the insurance professional and the tax professionals need to be able to have open lines of communication. So working Together and in tandem, they can support the business owner and the client's needs as much as possible. I think that's the key that we're talking about here, Henry. And so this last segment here is all about the fifth D that we talk about in the book around disconnecting from the system as much as possible. And $100,000 a year for 45 years, tax free to me is a pretty good disconnect from the system that wants to take a bunch of tax out of your back pocket, you know, so you can finally just slap the hand that's reaching into your back pocket away for a 45 year period of time in that example, which I think is pretty good. And so if you haven't already got a copy of the book, keep taxes away from your wealth. Make sure you go to keeptaxesaway.com and you can access it there. And video content like Henry and I are doing here, this type of podcast conversation, we have a whole treasure trove of those available as bonus material that you can access by going to keep taxes away dot com.

Yeah, and just the key takeaway that whoever is listening to this podcast is it's not a one person takes care of one professional takes care of one job, one professional takes care of one job, and so on and so forth. Imagine the power for the client when there's a tax professional who handles the maneuvering of the tax code in the favor of the business owner. There's the lawyer who's involved with drafting the agreements to create that estate freeze and plan. There's the business valuator that puts together the value of the business for how much it needs to trigger and all those elements for the lifetime capital gains exemption. The equation that right now is the standard equation that most professionals understand, but the equation that they're missing is the authorized infinite banking practitioner who takes care of helping the client become their own source of financing, disconnecting from the system as in, as an example, parking their money into a properly designed participating whole life dividend paying insurance policy to now no longer deal with 50% passive income tax rules. And then at the end there is a death benefit such as what we've shared with you with a capital dividend account where money can come out of the corporate environment tax free all together, supporting the business owner and the family to build that intergenerational wealth. And this part cannot be underemphasized because it involves a team to get together collaboratively to help the business owner. It's not a one man show. It has to be a multiple people involved, a team.

Love it. Well, and thank you for being a part of our team, Henry, and both at the Senate Financial and really a regular contributor here on the Wealth Out Bay street podcast. I appreciate that and all of our wonderful conversations. And for those of you watching on the YouTubes, go ahead and check out. There's a new video right there that just popped up right below. Go ahead and click that so you can continue your journey of learning. And we absolutely look forward to adding more value on the next episode of Wealth Without Bay Street. Thanks for listening to the Wealth Without Bay street podcast where your wealth matters. Be sure to check out our social media channels for more great content. Hit subscribe on your favorite podcast player and be sure to rate the show. We definitely appreciate it. And and don't forget to share this episode with someone you care about. Join us on the next episode where we continue to uncover the financial tools, strategies and the mindsets that maximize your wealth.