Maximize retirement income

An insured annuity can be a powerful tool to help business owners maximize retirement income while minimizing tax. This involves simultaneously purchasing a life annuity and a life insurance policy.

After-tax sale proceeds and retained earnings in a holding company create significant tax challenges, specifically double taxation upon the death of the shareholder of the company. In this case, taxes are generally taken first on the deemed disposition of the shares held personally by the shareholder, and then on the value when funds are paid to the shareholder or his estate, often by way of a dividend payment.

Another challenge for those of you with savings accumulated in a holding company is the need for liquidity from the company to provide for retirement. If you’re looking for strategies to maximize income while providing liquidity on death, a corporate insured annuity is worth considering.

How it works

An operating or holding company buys a life insurance policy on the shareholder’s life, and an annuity on a separate contract. The shareholder is the life insured and the corporation is named as the beneficiary. Generally, annuity payments pay the life insurance premium and the tax on the annuity. The amount remaining can be paid out to the shareholder as a bonus or dividend.

On the death of the shareholder, the life insurance proceeds are paid to the company and generate a credit to its Capital Dividend Account (CDA). Under certain conditions, the insurance proceeds may be paid tax free to the shareholder’s estate (via a tax-free capital dividend) and distributed to heirs or charity.

Case study

David Arthur, a Quebec resident, owns a Canadian-controlled private corporation. He is 70 years old and a non-smoker. The company has a $1 million GIC earning approximately 3% annually. The corporate tax rate on interest income is 46.57%. The interest income is being paid to the shareholder annually as taxable dividends and his personal marginal tax rate on regular dividends is 33.2%. The chart shows how he would benefit from having his company purchase a $1-million insured annuity.

Corporate Insured Annuity*			GIC Investment @ 3% (interest income)
Funds available to purchase an annuity	$1,000,000		$1,000,000
Tax rate on dividends owned by individuals	33.20%		33.20%
Corporate tax rate on investment income	46.57%		46.57%
Annual annuity payment/ Interest income	$85,056		$30,000
Insurance cost	$42,552		$0

Year	Yearly Dividend After Tax	Net Estate Value		Yearly Dividend After Tax	Net Estate Value
1	$28,393	$988,791		$16,052	$668,000
2	$25,721	$978,542		$16,052	$668,000
3	$23,379	$969,398		$16,052	$668,000
4	$23,601	$961,459		$16,052	$668,000
5	$23,824	$954,695		$16,052	$668,000
10	$24,712	$936,980		$16,052	$668,000

*Annuity rates will fluctuate. This income is for illustration purposes only. The guaranteed income amount on the date of purchase may be different. This scenario uses a non-prescribed annuity.

The benefits

• The annuity generates a guaranteed income stream and generally provides a higher rate of return than traditional fixed-rate investments. In this example, $24,714 in dividends after tax, versus $16,052 in a traditional fixed-income investment. The net estate value of the corporate annuity is $936,980, versus the GIC investment at $668,000.

• Corporate tax paid on annuity income generates Refundable Dividend Tax on Hand (RDTOH) balances that are available to the shareholder.

• The taxable portion of the annuity is less than the interest earned on the investments, reducing the annual corporate tax.

• Capital used to purchase the annuity is repaid upon death by life insurance proceeds.

• Insurance proceeds are likely paid tax free to the shareholder’s estate.

• Capital gains can be reduced upon death.

André L’Espérance is Director of the Wealth & Estate Planning Team at Richardson GMP.

The information provided in this publication is intended for informational purposes only and is not intended to constitute investment, financial, legal or tax advice. This material does not take into account your particular situation and is not intended as a recommendation. It is for general purposes only and you should seek advice regarding your particular circumstance from your personal tax and/or legal advisors. This material is based upon information considered to be reliable, but neither Richardson GMP nor its affiliates warrants its completeness or accuracy, and it should not be relied upon as such. Insurance services are offered through Richardson GMP Insurance Services Limited in BC, AB, SK, MB, NWT, ON, QC and PEI.