Corporate insured annuity

1. Corporate insured annuity A strategy for enhancing after-tax estate values & unlocking the value of the business. Presented by: Jim Whittaker, IG. Insurance Services This material is for information purposes only and should not be construed as legal or tax advice. Every effort has been made to ensure its accuracy, but errors and omissions are possible. Individual circumstances may vary and specific legal and tax advice is recommended.

2. Report on family business BDO Dunwoody/Compass • “Entrepreneurs are great at entrance strategies. After all, they’ve created companies, often from scratch. Their weakness is exit strategies.” • 44 per cent claim to have an exit strategy • 37 per cent if less than 10 employees • If clients are 60 years or older, 57 per cent claim to have an exit strategy • Of those above, only 16 per cent were “in the early stages of thinking about the matter” • Most business owners’ exit strategies: • 26 per cent sell to an outsider • 17 per cent sell to a relative • 17 per cent pass it onto family members to run • 12 per cent sell to an employee • Nine per cent keep until death, non-family run • Three per cent close the business down • Source: BDO Dunwoody/Compas Report on Family Business

3. Business succession planning • In the next decade, close to one trillion dollars of net worth in Canada will transfer to the next generation. • Succession planning has become very important for all businesses. But... • Only eight per cent are doing something about it • Of those, only 1.5 per cent plan on closing it down This means… • 98.5 per cent want the most tax-effective and efficient business transition and still maximize their personal estates, but have not formulated the best way to approach it.

4. Corporate insured annuity strategy As an ideal client for this strategy, you: • Are a major shareholder of a private corporation with surplus capital that is not required to operate the business • Are interested in maximizing after-tax retirement income • Are concerned about guarantees • Are looking to enhance the value of your estate for heirs or your favourite charity

5. Key questions to ask yourself 1. Am I using non-registered fixed income investments to supplement my retirement income? 2. Do I have heirs or a charity to whom I want to transfer my assets? 3. Do I have a desire to maximize my after-tax retirement income? 4. Am I willing to commit to a long-term planning strategy?

6. The situation • Your business has surplus capital invested in fixed-income investments to help supplement your retirement income. - The Corporate insured annuity strategy’s combination of a life annuity contract and permanent life insurance policy provides an opportunity to assist in enhancing your estate values and increasing after-tax cash flow in retirement.

7. The situation - cont. • During an estate transfer, the shareholders are deemed to have disposed of all shares in the corporation at fair market value including investment assets. - Permanent life insurance policies without cash value (e.g. term 100 policy) have a zero value for the purpose of share valuation. - For income tax purposes, the corporation can reduce the value of the corporation by replacing the fixed-income portfolio with a life annuity.

8. Why use holding companies? • Holding companies (Holdcos) are usually created to protect, from potential liabilities, surplus cash flow or investments arising from an operating company (Opco). • Excess funds are transferred to the holding company from the Opco to maintain the Opco’s small business status and a lower tax rate. • Personal tax rates apply to taxable dividend distributions.

9. Holding company considerations • Funds held within Holdcos and management companies are taxed at the top rate. • Funds withdrawn from a corporation are taxed according to the method they are distributed. • Capital gain tax liability will exist at the death of shareholder.

10. Passive assets CORPORATION $1,000,000 passive assets TAXABLE DIVIDENDS DIVIDEND - $1,000,000 TAX at 33% 330,000 NET $670,000 SHAREHOLDER

11. The Corporate insured annuity strategy How it works: • Purchase a non-prescribed life annuity contract with a portion or all of the passive assets to provide tax-preferred income for life. • Fund a permanent life insurance policy with a portion of the additional cash flow generated by the annuity. • Use the tax-free death benefit proceeds to replace, in whole or in part, the capital originally intended for heirs. • Take advantage of the capital dividend account (CDA) to provide further enhancements to your estate. Clients should ensure they can obtain life insurance before purchasing the annuity.Only private corporations are eligible for the CDA.

12. How it works

13. Life annuity contract • Corporation purchases a non-prescribed annuity • Annuity provides regular payments for life • Annuitant is shareholder • Taxable portion of payments decrease over time

14. Eligible products Permanent life insurance - Term to 100, non-participating whole life insurance - Universal life insurance (minimum funded)

15. Distributing excess funds from a corporation Options for retirement income Refundable dividend tax-on-hand (RDTOH) is available only if a corporation is a private corporation at the time the dividend is paid. RDTOH is accumulated in respect of Canadian and foreign investment income, if the corporation is a Canadian-controlled private corporation when income is earned Corporation can distribute these funds by - paying salary and/or - paying a taxable dividend

16. Comparing distribution methods Example of comparing dividend or salary distributions (without Corporate insured annuity strategy) Private corporation residing in Canada has a GIC portfolio worth $800,000. Assumptions GIC interest rate = 5 per cent. Corporate tax rate on investment income = 49.79 per cent. Personal dividend tax rate = 31.34 per cent. Personal income tax rate = 46.41 per cent. Shareholder does not require distributed cash to live on, but still wants to annually remove after-tax income from the corporation.

17. Comparing distribution methods 1. Tax-deductible to the corporation. 2. Based on assumed corporate tax rate of 49.79 per cent noted above. Includes a RDTOH balance generated on taxable income, before dividend, of $10,668 (26 2/3 per cent of $40,000). 3. The amount of the taxable dividend issued to the shareholder is limited to the amount of funds within the corporation. Here, there are no other available sources of income or cash. The full RDTOH balance cannot immediately be refunded to the corporation. It has a remaining RDTOH balance of $626 after taxable dividends are paid.

18. Comparing distribution methodsCorporate insured annuity advantage

19. Client profile Joe Martin is a major shareholder of A1 Holdings Inc., a CCPC. - Joe, male , age 70, non smoker Joe is looking at retiring and wants to ensure that sound estate and financial planning solutions are in place to: - maximize after-tax estate values - supplement his retirement income

20. The situation Joe works with his financial advisor John Thomas and determines: - he has $800,000 surplus capital in A1 Holdings Inc. - the surplus capital is invested in GICs Joe believes that this investment approach is the only solution to maximize after-tax estate values while supplementing his retirement income. But… Further discussions with John have determined that there are alternative options available to him.

21. Key assumptions • Male, age 70 • Non smoker, standard risk • Annual premium for Dynaterm 100, $800,000 face amount • Corporate tax rate 49.79 per cent • Personal tax rate 46.40 per cent • Non-prescribed annuity, single life, zero guarantee period with an underlying interest rate of 5 per cent

22. Insurance solution The Corporate insured annuity strategy • Ascertain insurability. • Corporation uses capital to purchase a life annuity with a lump sum payment of $800,000. • Receive tax-preferred income. • Use excess income from the annuity to purchase a Term to 100 permanent life insurance policy. • Death benefit is paid to A1 Holdings tax-free.

23. Corporate insured annuity advantage Corporate insured annuity versus an alternative investment $800,000 lump sum

24. Corporate insured annuity advantage *Assumes the insured has died and a tax-free dividend is paid to the estate through the CDA **ACB is zero at year 16

25. Annual: net estate values

26. Implementing the plan Joe decides to implement the plan given that: • His after-tax retirement income within a life annuity will exceed what he would gain with a traditional fixed-income investment. • The value of his estate will be enhanced by replacing the assets used to purchase the annuity with a permanent life insurance policy.

27. Corporate insured annuity considerations • Prescribed annuity cannot be changed once it is in place - it’s permanent. • No access to funds over and above the income from the prescribed annuity. • Client must be insurable. • Two separate products/contracts - each must be administered separately.

28. The Corporate insured annuity strategy offers: • The potential to enhance the value of a shareholder’s estate for their heirs or favourite charities. • The opportunity to transfer the surplus capital to shareholders, tax-free, from a private corporation’s CDA. • Permanent life insurance that will replace the value of the assets used to purchase the annuity. • The potential to supplemental retirement income. • A guaranteed annuity income for the life of the annuitant/life insured.

29. Some other opportunities? • What about all those PC’s ? • What happens when a business is sold and all the proceeds end up in the Holdco? • What about exit plans for MD’s • What about Dentist’s? • Lets talk!

30. Questions