On mixing business and personal
Life is about balance; in most things we do, there are equal and opposite reactions to the decisions we make. Money is no exception, particularly where we use strategies that defer or exempt us from tax, or protect our assets from risk.
One example: a curious child and a bee’s nest. The action is to get as close as possible to the nest to see what’s going on and satisfy their insatiable curiosity; the re-action, is often a painful sting from a protective bee.
Another example is when you choose to invest your money in a guaranteed security. For the right to receive your entire principal back without risk and the stability of a lower, but assured, income, you give up the future growth potential riskier markets might have earned you, and the higher distributions often associated with them.
For those of you who are entrepreneurial by nature and have built or purchased businesses; one of the tougher questions you will have to answer once you’ve figured out how to grow your business and keep it running, is how to take out the retained earnings that accumulate over the years and still pay a minimum amount of tax. While holding companies and professional corporations may provide you with lower liabilities, better tax deductibility and potentially lower taxes; ultimately you will need to access the money in order to spend it; it is at this point that actions and opposite reactions come home to roost.
In order to remove the funds from these corporate entities and use them personally, you will usually have to part with a considerable portion of it to pay the taxes that will be due. There are different strategies out there to facilitate this; one solution that can be effective is called a corporate insured retirement strategy. This approach uses the retained earnings in the company to purchase an insurance policy; the policy is owned by the company, which will usually make the premiums deductible, and upon the death of the insured, the payout less the ACB will flow through to the capital dividend account.
Additionally, with this structure an immediate financing agreement can be entered into which may allow the corporation to borrow up to 90% of the value of the policy from most chartered banks as well as other selected financial institutions. These funds can be used to invest back into the business or to generate additional income.
So, as before, if this is the action there must be an opposing reaction and of course there is. In this case it’s cost: insurance premiums and interest charges all eat up part of the earnings you have put away; the way to decide then, is to total the potential costs of utilizing this strategy and subtracting them from the tax benefits you will realize. If the difference is substantial enough to justify the actions, then it is worth considering.
There are a number of factors that go into determining the value of a strategy like this, so it goes without saying this is not a do-it-yourself-project (unless you happen to be a CPA). Talk to your tax advisor and they will help you walk through the analysis.
This is for information purposes only. It is recommended that individuals consult with their financial advisor before acting on any information contained in this article. The opinions stated are those of the author and not necessarily those of Scotia Capital Inc. or The Bank of Nova Scotia. ScotiaMcLeod is a division of Scotia Capital Inc., Member CIPF.
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