Life Insurance Tax Free In Canada

So everything comes at a give and take relationship, especially when it comes to taxation. I'm sure most people are aware of that. So if we're going to, we're going to exercise something, on one hand we want a deduction, well then there's a sacrifice on the other side. At some point we have to pay the piper. Where's the taxation going to come into play? So there are certain instances where it's possible to create a deduction on a life insurance premium.

Hey, it's Richard here with Ascended Financial. A couple of great questions that we get a lot about life insurance taxation. Now there's a ton of information out there in the world and of course some of it's from the United States, some of it's in Canada, etc. So we're going to talk about Canadian specifically and I'm just going to do some high level on a couple of things around life insurance taxation. So one of the most common questions is when you receive a payout of a life insurance claim. So as an example, heaven forbid someone has died, they're no longer with us, they've passed on and there's an insurance contract in place and the insurance company is going to pay a death claim, a death benefit. So there's a little bit of process, you fill in some paperwork, you have to provide a certificate of death, etc. And then that insurance claim gets paid that is paid on a tax free basis in Canada. So as long as there's a named beneficiary, the named beneficiary or beneficiaries on the insurance contract will receive their portion of on a tax free basis. Okay. Now in the event that there's no beneficiaries listed, then what happens is that amount gets paid tax free to the estate. Once it's inside of the estate though, it falls under the rules of the estate and then it has to get dispersed according to the rules in that specific province. So you can certainly learn more about that on a provincial basis depending on where you're located. Now there's also corporations. A lot of people have insurance in corporations for a whole host of really, really important reasons. Buy sell arrangements. If you have a business partnership and something happens to your business partner and you now need to make sure that their spouse gets paid out for their share of the business, etc. Or you need to hire a new employee, etc. You have capital that shows up in the business tax free that you can then use for that purpose. Now there are a little thing that has to do with the Adjusted cost basis and the capital dividend account. But when proceeds are received at the life insurance from the life insurance company on a death claim at the corporation level, what it does is it increases the capital dividend account. So that's a notional account that's available, which allows the remaining shareholders to essentially, for lack of better terminology, withdraw tax free dividends from that component out of the corporation at a later date. So there's a ton of advantages there in the corporate realm, regardless of the type of insurance that you have. So really important to spend some more time learning about that if you're a corporate owner. And, and that's something you have some questions about. Okay now, so the key thing we've got a tax free payout. Another question that we get a lot about this is are the premiums deductible? If I'm in business or I've got this insurance for whatever reason, can I deduct those premiums? Well, if we're talking about a life policy or as an example a living benefit such as a disability or critical illness, you would not be deducting those premiums. So everything comes at a give and take relationship, especially when it comes to taxation. I'm sure most people are aware of that. So, so if we're going to exercise something, on one hand we want a deduction, well then there's a sacrifice on the other side, at some point we have to pay the piper. Where's the taxation going to come into play? So there are certain instances where it's possible to create a deduction on a life insurance premium. Generally speaking, very broad stroke terms. That's only when a lender, if you're borrowing money and the lender requires, because of the risk associated with them giving a loan, they say, hey, you know, the only way we're going to do this is if we get insurance on the business owner. So if the business owner dies, our loan gets paid out. That's a one very unique circumstance, very rare where that's requirement. And now you'd be able to deduct those premiums because the reason you got the insurance was because a lender told you basically that you had to get it done. So there's very few circumstances where you deduct premiums. Even if you're able to deduct the premiums, then the tax free payout that you would get, that now changes because if we're deducting on the front end, then there's going to be a tax event on the back end. So just understand there's Always a give and take. If we're going to get something on the front end, we got to give up something on the back end. That's usually the way that things work in the tax realm. Not a tax professional. So seek independent advice, but just, you know, kind of understand that framework. So another thing is around dispositions of a policy. Disposition of a policy is not the same as a claim. It's not, not like someone's died and there's a payout disposition. Could be an example, someone has a cash value policy and they want to cancel it for some reason. Generally not always the best idea. But there's circumstances where that comes up for a variety of reasons. So if you're going to cancel a policy and has cash values inside of that policy, and that policy has grown and it's matured for a period of time, there's a value that is greater. So we have a value way up here and down below here we have a line that's called the adjusted cost basis. But our cash value is up here. Well, anything over and above that adjusted cost basis number can create a taxable event. So you know, kind of the jelly and the sandwich there and that would be taxed as regular income. There's other forms of dispositions that are indicated in the Income Tax Act. Again not a tax professional, but you can do withdrawals of those cash values. They can be taxed at a slightly different rate. And policy loans, generally those are, those are tax free under the adjusted cost basis. Once you over the adjusted cost basis, they can also create a disposition in the eyes of the Income Tax Act. So if a person wants to create or get access to capital utilizing the policy, there's another method of doing that by collateralizing it with a third party lender. That's a very common strategy in Canada, especially for corporations and business owners. But regardless, it's important to understand that when you're doing a lot of activity with a policy and money is going to be transactioning out of it in some way, there could be a risk of a disposition. And to be very mindful and aware in your circumstance, is there going to be a taxable event there and then more importantly, what do you do about it? Often people stop at just the event of the taxation and they don't understand how you can basically net zero that event by putting capital back in over a number of years. So there's a lot of really important things in the back end and we have to really stretch our brains to think long range about what our objective is and what it is we're trying to accomplish. But those are some very quick basics on life insurance taxation in Canada, the key thing being that death benefits received are tax free. There's mild situations where tax can occur potentially once it hits the estate. Ideally, if you've got a named beneficiary, we avoid that problem. And likewise in the corporate realm realm, it increases the capital dividend account and that can provide a ton of advantages to the remaining shareholders. So often a lot of small businesses in Canada, which is kind of a the makeup of the bread and butter of most of the country, we have huge advantages there. Where you have a spouse, maybe you have the primary one spouse as the business owner, the primary driver of the business, and another spouse is less involved and there's an ability for them to extract tax free capital out of the corporation at death by having proper insurance in place. So I hope that's helpful. Go ahead, check out some more of our videos. We've got a lot of great content out there and keep learning, keep growing, keep educating yourself on some of the advantages of these contracts and what they can do for you in your specific circumstance. Cheers.