Before delving into how this strategy works, below is a brief summary of what Critical Illness Insurance is (a more detailed description can be found here).

Critical Illness Insurance pays a tax-free, lump-sum benefit if you are diagnosed with one of the covered conditions, such as heart attack, stroke, cancer and multiple other illnesses and conditions (26+).  You must survive for a period of at least 30 days.  Critical Illness Insurance was created to provide a “living benefit” to those who survived a major illness to help offset lost income and cover additional living expenses.

Many C.I. policies offer an optional feature (at an additional cost) called Return of Premium (“R.O.P.”), which can encompass R.O.P. on death, expiry, or policy surrender.  Essentially, this R.O.P. rider entitles the policy owner to a full refund of the premiums they have paid into the policy.

How Split-Dollar Critical Illness Insurance works

Split-Dollar Critical Illness (“C.I.”) involves a corporation owning a C.I. policy on the life of a shareholder (or key employee).  The corporation pays the premium (excluding added Return of Premium (“R.O.P.”) costs), and the shareholder personally pays for the R.O.P. cost.  For the purposes of this case study, we will just exhibit an R.O.P on expiry.  A functional example is below:

1. The corporation is the primary policy owner and beneficiary for a $250k Term-20 C.I. policy on the life of a male shareholder, 45-years old, non-smoker.  This comes at a cost of $1,825 annually.**
2. When applying for the policy mentioned above, there is an R.O.P. on expiry added.  After 20 years, if there is no claim and the policy remains in force, the shareholder is entitled to receive the entirety of the premiums that were paid.  The R.O.P. rider comes at a cost of $865 annually and the shareholder owns this portion of the policy and personally pays for this.

Outcomes

A. The insured (shareholder) remains healthy over the 20-year policy term and fortunately does not require a claim.  At conclusion of the term, the shareholder receives a tax-free cheque for $53,800.00 ($2,690 annual premium for 20 years, comprised of $1,825 for the CI cost and $865 for the R.O.P. cost).

Or;

B. The insured (shareholder) is diagnosed with a critical illness and is entitled to a claim under the terms of the policy.  The corporation receives a tax-free cheque for $250,000.

End Result & Analysis

The shareholder has covered himself, his family, and his business in the event he becomes critically ill.  If he remains healthy, he receives a tax-free cheque for money that would have previously been taxable if taken out of the corporation.  If he requires a policy claim, the corporation receives a lump-sum cheque, tax-free.  This strategy combines personal & business protection, income replacement, and tax-planning strategies, and is a concept that every business owner should look at. To learn more about this, contact Jeff Graham at (604) 363-7549 or jeff@firstoakfinancial.ca.

DISCLAIMER: it is imperative to consult with your legal and tax advisors prior to executing this strategy. Shared Ownership Agreements are strongly recommended. This commentary is provided for general informational purposes only and does not constitute financial, insurance, investment, tax, legal or accounting advice.

** numbers via SSQ illustration software.