Estate planning can be challenging for the most financially savvy business owner. Emotional issues, planning decisions and taxation reviews need to be addressed. Permanent insurance also needs to be considered, as it can often play an important role in estate planning. But if good cash flow is essential at your current stage of business, paying pricy premiums for insurance can be a turn-off. However, with the right estate planning strategy, such as an immediate financing arrangement (IFA), you can invest in life insurance and accumulate tax-friendly wealth without hindering your cash flow.
“An IFA provides flexibility for the entrepreneur to access a portion or all of the capital directed to the insurance plan if it’s needed for business use,” says Neil Menzies, Founder of Vancouver-based Arbutus Financial Services Ltd. It’s a sophisticated strategy that works by purchasing a permanent life insurance policy and contributing the maximum allowable premiums. The policy is then used as collateral for a line of credit, which you can use to maximize your cash flow. If you provide additional collateral security, you can sometimes borrow as much as 100% of your annual premium payments, paying only the interest (which you can often claim as a tax deduction). At the insured’s death, the proceeds of the policy retire the outstanding line of credit, with the tax-free balance going to the beneficiary.
This strategy isn’t for everyone. Because of the significant learning curve involved in understanding IFAs, it’s essential to consult with your financial and legal advisors before entering into one. “IFAs are best suited for [entrepreneurs] in their 50s and 60s,” says Menzies. “They want their business to transition smoothly, they have a need for the insurance and they want to provide for their family.” This age group is also more likely to consider a significant policy with an annual premium of around $100,000 because they have a large ongoing income, and are typically not debt-averse. With the right planning and execution so that all possible tax deductions are used, you can create a tax-free death benefit with only a modest effect on cash flow while your business is growing.