It’s called a split-dollar critical illness policy or corporate-owned critical illness policy (we’ll be using the name interchangeably) and it’s a risk mitigation strategy that has multiple upsides – more so than the traditional insurance coverage that it provides. Considering some of its components have yet to be ruled on by the CRA, there’s an interesting strategy that’s emerged for the time being. We’ll discuss that here.
What is a corporate-owned critical illness insurance policy?
It is a traditional critical illness policy, owned (purchased by) your corporation – therefore, the corporation is the policyholder. You or a key shareholder or a key director (etcetera, etcetera) would be the person the policy is purchased on – therefore, the person (you) is the insured.
That’s it. Naturally, one would go to “why do I need, want or desire a policy like this?”. In that case, it’s important to look at the benefits of a critical illness insurance policy.
What is the benefit of a corporate-owned critical illness insurance policy?
Simply put, there is a financial burden or implication thrust on a corporation when one of its key people is diagnosed with a critical illness. What kind of burden? Well, if you’re the sole shareholder and a key player – you are the business. And, if you’re out for the count, so-to-speak, or better, not out – just on leave, you’ll need to replace yourself.
Let’s say you didn’t need to replace yourself – you’ve got a great business that operates with little contribution by you (today). Certainly, the advice or consultation that you’d provide would be missed. Consequently, decisions that would normally be made (or not made) may go the other way. And that will have financial implications.
Let’s say further, that isn’t the case either. Well, you need to get better, don’t you? And, while OHIP has great advantages – there’s a flurry of treatments that it doesn’t cover, not to mention the time off for yourself and a significant other or the cost of a support person, or travel or parking, or alternative treatments, or, or, or… you get the gist of it.
We can all agree there is a financial implication to getting sick, and if you’re one of the lucky few who have enough money to deal with that (you are, if you’re considering this strategy) then my question to you is this – why use your hard-earned dollars, savings and investments to get better when you can use someone else’s?
A critical illness insurance policy pays a lump sum of tax-free money to the beneficiary and that money can be used for whatever you want.
How does a split-dollar critical illness insurance policy work?
There is a rider (more on riders in another article) called Return Of Premium and that is a key component of this strategy. Before we talk about that – briefly, a rider is like an add-on, a separate part of a policy like a passenger in a car. The driver is the policy, and the passenger is the rider. What is important to note, is that a rider is not mandatory and by virtue of it not being mandatory it can be added or not added. Further, it can be added (owned) by the policyholder or the insured. The owner of the rider gets the benefits of the rider.
So, the Return Of Premium rider is added to a traditional corporate owned critical illness policy and the beneficiary of the rider is the insured (you). In order to derive the benefit, you’d have to pay for it – I mean, you are the owner of it, right? So, what is the benefit of it? Just what it says – Return Of Premiums… which premiums? ALL OF THEM. The premiums paid for the policy and the premiums paid for the rider.
Simply put, the way it works is the corporation owns the policy and you (the business owner and insured) owns the rider. And you’re each the beneficiaries of what you own.
What is the real benefit of this critical illness insurance strategy?
The real benefit is and must be the critical illness protection you purchased. It is risk-mitigation at it’s finest. As described above, there’s a financial burden to getting sick and if a critical illness diagnosis happens, the insurance company pays a lump sum of tax-free money to the corporation to do with it what it wishes. And it is almost certainly more money than the corporation paid into the policy over the years it’s owned it.
What is the added benefit of this critical illness insurance strategy?
Let’s say you don’t get sick – what then? Well, you paid for and own a rider called return of premium and that’s what you’ll get. You’ll exercise your right to your return of premiums and that includes what the corporation paid and what you paid (with after-tax dollars along the way). Nifty, right?
Why is this important? Well, you used retained earnings from your corporation to pay for this policy. If you had taken them out in a traditional sense, you would have been taxed at whatever tax rate you’d have been taxed at. But, you didn’t do that – you saw that your business was exposed to the risk of a critical illness to one of it’s key players and decided to mitigate that risk and used corporate retained earnings to pay for that policy.
Now, when it comes time to claim that return of premium – you’ll get that money tax-free or you won’t – but in that case, you got sick and the corporation reaped the rewards of prudent planning and risk mitigation. And those rewards far outweigh the return of premium anyways. Win, win – save for you got sick – but we’re looking for silver linings here.
What hasn’t the CRA ruled on?
What the CRA hasn’t ruled on is whether you got a shareholder benefit in the instance that you exercise your right to the return of premium. See, this can’t be a windfall victory for you, that’s akin to tax evasion and not what we’re out to achieve.
With the appropriate agreements, contracts and accounting – along with real life scenarios where we can safely say this is a risk mitigation strategy, the concept proves that there’s no issue. And, insurance companies are going to bat for clients where the CRA has ruled otherwise. Ultimately, putting their money where their mouth is, so-to-speak.
Hence the importance of building this type of plan with a sound financial planner in concert with your accountant and tax lawyer.
How can I use a corporate-owned critical illness insurance policy?
Ultimately, you’re protecting yourself and your corporation from the risk of a key player being diagnosed with a critical illness and losing their contribution for a period of time. That’s the main and most important part and the usage of this is clear.
Secondarily, without the need to use the aforementioned, you’ll be reaping the reward of return of premiums of which, you paid some and your corporation paid some. Effectively providing you with a healthy return on your money (consequentially) via preferential taxation rates.
To experience a real life case study, click below and read on!
What you need to know:
- The concepts offered are based on information available at the time of writing, it is subject to change.
- Coverage is not guaranteed for everyone – this coverage is underwritten and based on an applicants age, sex, smoking status, family history, medical history and a slew of other pertinent information.
- As always, seek advice from your financial professional, accountant and tax lawyer.
- For more information regarding the split-dollar corporate owned critical illness insurance strategy reach out to our office – we are elated at the opportunity to offer a no-obligation consultation.
The information in this article is derived from various sources. We do our best to ensure the sources are both accurate and reliable and – information changes. As such, we make no guarantee or warranty to the completeness of the information presented here or it’s application to your personal circumstances. The rates presented in the case study as well as the concepts in this article are for informational purposes only. Before acting on any of the above concepts, reach out and get a personalized look at the applicability of this and other insurance strategies for your unique personal or corporate circumstances.