When shareholder of a corporation decides to purchase a corporate-owned insurance policy one question that comes up a lot, “What is the best way to access my policy’s cash values?”
A popular way is to have the corporation collaterally assign the insurance policy to a third-party lender (usually a bank) for a series of tax-free loans. Currently the Canada Revenue Authority (CRA) does not treat collateral loan proceeds as income, so this amount potentially is tax-free to the borrower.
If a business owner is looking for a quick access to tax-free cash, then most lenders will offer a loan that acts like a line of credit and is secured against the cash surrender value of their whole life policies. This option allows the business owner to access 90% of their policy’s cash value tax free (not all lenders have the same rules so you should check with the lender first).
By taking a loan and assigning your policy to the lender, will allow your policy’s cash values and death benefit to continually growing without any interruption. Depending on the age of the borrower, the length the policy has been in force, and the amount of cash value available, there is a possibility that the lender does not require any principal or interest payments. On death, the policy death benefit pays the outstanding loan plus accumulated interest. Any amount of death benefit that remains will be paid to the corporation.
Many business owners who use this option are looking to withdraw tax free from their policies at retirement age. Depending on the amount of cash value available, there is a possibility of withdrawing annually starting at age 65 every year for 20 years into retirement.
(Note: Either the corporation or a shareholder may borrow money from a bank using the insurance as collateral. Tax consequences will vary depending on the structure (i.e., shareholder borrowing vs. corporate borrowing). It’s important that the business owner’s insurance advisor along with other business professionals (i.e., accountant) be involved when making these decisions).