In medical school or residency, buying life insurance was a smart move to protect loved ones, especially if your debts outstripped your financial resources at the time.
But once family finances become more secure, in step with a successful medical practice, the role of life insurance may shift to safeguard other goals: to build net worth in a tax-efficient way, add stability to an investment portfolio, provide a source of emergency funds later in life, or maximize your estate for your heirs.
As an incorporated physician, you can enjoy the financial benefits of a life insurance policy while you’re alive if your company owns the policy, pays the premium and is the beneficiary.
1. Build net worth tax-efficiently
Grow investments tax-free. What makes permanent life insurance an attractive investment option is its tax-exempt nature, with growth inside the policy sheltered from annual taxation while the investments remain in the policy. Later, the death proceeds, including the growth, get passed on to your estate with a favourable tax treatment.
Preserve small business tax rate. Because of the tax-sheltered nature of these policies, no passive income is declared as long as the cash values are not withdrawn from the policy. This in turn can help you manage the small business income tax rate on your active income (your practice income). In most cases, under today’s tax rules every $1 of passive investment income above $50,000 would potentially trigger additional taxes on about every $5 of active business income. However, investment growth inside a corporate-owned permanent life insurance policy is not deemed to be passive income — so there’s no impact on the small business deduction limit.
2. Protect your portfolio from volatile markets
During times when many portfolios are affected by volatile markets, clients with permanent insurance policies may be partially insulated by the nature of their investments.
The investment component of permanent life insurance policies can be structured to include a range of tax-efficient investment options that help reduce overall portfolio risk from volatile markets. Not all permanent insurance policies are built the same, but there are basically two types:
- If you have universal life insurance, your policy may be structured with a cash value that is guaranteed to increase year over year. Also, it may allow you to pick which markets the policy invests in, including low-risk ones.
- Participating whole life insurance is also structured with guaranteed cash values that increase year over year. These policies offer a further buffer through a “participating” cash value that allows the policy owner to share in the profit of the insurance company; this comes in the form of dividends. These policies have vested (secured) values every year, adding a safe option to your portfolio to buffer market downturns. They provide exposure to equities and alternative asset classes while taking minimal overall risk.
In both cases, insurance investments should be for long-term goals, not cost-of-living or short-term needs.
3. Access cash value for emergencies or other needs
A life insurance policy can be a valuable financial asset to provide a ready source of emergency funds or cash flow to meet liquidity needs, such as long-term care.
This is especially attractive if it lets you avoid liquidating other retirement investments while markets are down, prior to a market recovery. Be mindful, though, that once investment assets are withdrawn from a policy, there will be tax consequences that must be considered.
Your corporation may be able to use the policy’s cash value to secure a line of credit, giving it a secure source of cash flow without the tax implications of withdrawing assets. Work with your MD Advisor* to review your options and determine whether accessing the cash value of your policy is prudent. If it is, you’ll want to ensure you’re using the most tax-efficient method to access the funds.
4. Maximize your estate for your heirs
A permanent insurance policy will often form one of the first elements of an estate plan with the benefits of a corporately owned life insurance policy being magnified. At death, the proceeds of your policy will be paid to your corporation on a tax-free basis.
Furthermore, there is a credit to the capital dividend account that allows for a tax-free dividend to be paid to your heirs, greatly reducing the tax liability for your estate. A properly structured permanent insurance policy is one of the most tax-efficient ways to exit funds from your corporation, helping you to achieve estate goals such as leaving funds to your favourite charity or maximizing the legacy to be passed to the next generations.
Explore how corporate-owned life insurance could benefit you
Corporate-owned permanent life insurance can be a strategic part of a solid financial plan. It can be a tax-efficient way to help achieve your financial goals during your lifetime, while also planning your legacy for loved ones.
Your MD Advisor can help you assess whether a corporate-owned policy would work with your financial plan, and find an option that suits your circumstances.
*MD refers to an MD Management Limited Financial Consultant or Investment Advisor (in Quebec), or an MD Private Investment Counsel Portfolio Manager.
All insurance products are sold through Scotia Wealth Insurance Services Inc., an insurance agency and subsidiary of Scotia Capital Inc., a member of the Scotiabank group of companies. When discussing life insurance products, advisors are acting as Insurance Advisors (Financial Security Advisors in Quebec) representing Scotia Wealth Insurance Services Inc.
The above information should not be construed as offering specific financial, investment, foreign or domestic taxation, legal, accounting or similar professional advice nor is it intended to replace the advice of independent tax, accounting or legal professionals.