3 Financial Tips For Saving On Car Insurance

Car insurance is one of those things that everyone has to have but no one likes to really talk about. However, if you did talk about it more, you may come to find out that there are some simple yet effective ways that you could be saving money on your car insurance that you didn’t even realize. This savings could equate to quite a bit of money over the course of a year, and who couldn’t handle having a bit more money to play with? To help you find some savings with your own car insurance, here are three financial tips for saving on car insurance.

Check Rates From Various Carriers

When you first got your car insurance, you likely shopped around to find the best coverage at the lowest price. Depending on how long ago that was, you may have had your driving situation changed in a way that could give you lower rates with a carrier different than your current carrier. However, you’ll never know unless you ask. For this reason, Jon Linkov, a contributor to Consumer Reports, recommends doing an annual rate check to see if you could get a lower rate by switching insurance providers. While this might mean going through some work on your end each year, this could amount to some major savings for you on a year-to-year basis.

Group Insurance Policies Together

Like was mentioned above, you may have got your insurance a while ago. Since then, if you’ve added any other type of insurance into your life through a different insurance carrier, it may be worth your while to see if you could save some money by grouping your insurance policies together. Chris Morris, a contributor to Bankrate.com, shares that many insurance companies will let you stack discounts if you choose to have multiple lines of insurance through them. Not only could this save you money, but it could also simplify your life by only having one insurance carrier for all your insurance needs.

Only Get The Insurance You Need

If you look at the details of your car insurance, you’re likely paying for quite a few types of things. Some covers the people in your car, some covers your actual vehicle, and some covers others if you happen to get in a car accident. But if you haven’t looked at your policy in a while, you might actually be paying for things you no longer need or no longer need the amount that you’re currently paying for. Barbara Marquand, a contributor to NerdWallet.com, suggests looking at your current policy and dropping certain coverages that are no longer applicable, like collision and comprehensive insurance. While this won’t work for everyone, if you can go without it, you could save yourself some money on your premiums.

If you’re interested in saving money on your car insurance, use the tips mentioned above to do just that.

How to Save Money on Your Home Insurance

Insurance is not always a top priority if you don’t have much spare cash. People often forgo insurance when they are struggling to buy food or put fuel in the family SUV.  This is understandable, but insurance should never be regarded as an optional extra.

In some instances, insurance is compulsory. In many countries, it is illegal to drive a vehicle on a public road without some kind of insurance. You won’t be breaking the law if you don’t buy a homeowner’s insurance policy, but you could end up homeless or seriously out of pocket if a bad storm flattens your property or mice chew the electrical circuits.

Taking out home insurance is sensible, so if you are looking to save money on your policy, here are some useful tips.

Compare Prices

It is always worth comparing prices when you need any type of insurance. Use price comparison websites to compare prices for the major insurance companies, but don’t forget to ring around some local insurance brokers to see what they can do for you. Local insurance agents such as State Farm Calgary are usually happy to price match a verified quite, and since they offer a more personalised service, it could be a smart move to go ‘local’.

Make Your Home More Secure

Home security is a weak spot. Many insurance claims are security related, for example, if an outbuilding is broken into and expensive tools stolen. Improving your home’s security will help to reduce the cost of home insurance, so it is worth investing in new doors and windows, improving locks, and adding a high-tech alarm system.

Check out the guidelines for each insurer to see what discounts they offer for higher specification home security.

Accept a Higher Deductible

Deductibles are the sums you agree to pay up front when you make a claim. The more you agree to pay, the lower your premium will be. However, bear in mind that a very high deductible may not bring your premiums down all that much.

Reduce the Risk of Claims

Each time you make a claim on your home insurance, it puts your premiums up. Insurers calculate premiums based on the likely risk of paying out on the policy, so if you have made recent claims, you can expect to pay more. Clearly, we buy insurance to protect us in the event we need to make a claim, but it is only sensible to take precautions against future claims.

Check to see if there is anything you can do to protect your home against bad weather or criminal damage. Invest in storm shutters or make repairs before they snowball into more expensive problems. Your insurer will thank you for being a proactive homeowner.

Ask for Discounts

Many insurers offer discounts to homeowners if they take out a second or third insurance policy. Buy your auto insurance and home insurance policies from the same agent and you should be offered a discount. If not, try a different company.

Don’t accept the first price you get. There are always ways to find cheaper insurance, but be careful not to go with a company that is rated badly for customer service.

Why no exam life insurance policies may be the right option for you

When it comes to life insurance policies there are plenty of different ones to choose from. The majority of policies will ask that you undergo an underwriting process that includes a medical exam to take place. But not all of them.

Not long ago, you would pay dearly for the right to skip the exam, not so anymore.

“Due to advancements in digital underwriting, the price gap between no exam policies and exam policies has narrowed significantly in recent recent years” – Ty Stewart – Founder of SimpleLifeInsure.com

Here are the 4 reasons why these no exam life insurance policies could be the right ones for you.

You need your coverage quickly

Usually, the underwriting process of a standard life insurance policy is between 6 and 8 weeks. Whilst some people may be happy to wait this long, there are times when this period may simply be too long to wait.

This includes:

  • When you are applying for an SBA loan, which will often require life insurance to be in place
  • When you are in the process of a divorce and it requires you to have your former spouse named as beneficiary in a life insurance policy
  • You are in the process of selling or assigning pension rights to a third party
  • You are planning to be on vacation or will be out of the country for a long period of time

In all of these situations, a life insurance policy that does not require a medical exam may be ideal.

You haven’t been able to visit your doctor for some time

You may not realize it, but the date you last visited your doctor may be the difference between your policy being approved or declined. If it has been more than 2 years since you last visited your doctors, then you may want to carefully consider applying for a life insurance policy. 

Whilst you are likely to think that you are in great health, a medical exam may uncover a medical condition that you didn’t know was there.

A great idea for you may be to apply for a policy that does not require you to undergo a medical exam. Even if this is just a stop gap until you can have your health checked over and then apply for a policy that does require the physical.

You have a phobia of doctors, needles or blood

For some people, the thought of visiting a doctor fills them with terror. If this is the case, then a life insurance policy that requires them to undergo a medical exam may not be possible.

The idea of heading to the doctor may make you feel anxious and stressed. Not only can this make it difficult to even get to the doctors, but when you get there your blood pressure could be higher than normal. Having an impact on the readings taken by the doctor.

The level of policy value you need is low

Some people may require higher level insurance coverage (in excess of $1million). For these people, you will not be able to take out a policy without a medical exam.

The average policy amount that is taken out on policies that do not have a requirement for medical exams are around $500,000. This level is suitable for a huge amount of the population.

If you are not sure whether or not a policy without a medical exam is suitable for you, then it is best to seek the expert advice of an independent broker. They can work with you to identify the best approach to take.

When you Should Go With “No Exam” Life Insurance

The idea of “no exam” life insurance can be a real problem with insurance advisors looking to decide if it is right for their client or not.

No exam life insurance typically comes with less coverage, with an average of under $400,000. These policies are also often more expensive than medically underwritten policies. Another problem with them is that the companies that offer this style of insurance tend to be less-known than larger companies. “Even though no exam life insurance is a little limited,” says TrueBlueLifeInsurance founder Brian Greenberg, “there are some occasions when it can be the right choice for your client.”

To help you gain a better understanding of whether a no exam life insurance policy is the right choice, here are five occasions when it could be.

  1. Convenience

Many clients feel that the convenience of getting a no exam life insurance policy outweighs having to pay higher premiums. Some people are just far too busy to have a medical exam performed even if they know they need it for the coverage. Instead of having to wait for the client to undergo a medical exam they can just call you or have a short meeting to go through the application. You can apply for a no exam policy in less than 20 minutes and the client will have coverage from a great company in just 24 hours. They could also choose to undergo a medical exam later on to have their premiums lowered.

  1. If they Need Coverage Quick

There are many clients who need to get coverage in a hurry. There could be any number of reasons for this including needing to secure a loan or divorce arrangements. No exam policies are great in this case because they can have their policy ready in 24 hours. If a customer needs to have quick coverage but needs to be covered for more than $400,000 they can take the approach of having a “stack policy”. If the client needs to have over a million in coverage but don’t have the time to go through the underwriting process, then you can put the client on a number of no exam policies across several companies to give them the coverage they need. Of course if you take this route you need to be honest and upfront with the other companies, because there are rules on how much coverage a person can receive. This is dependent on their income and age.

  1. If They Want a Smaller Policy

If you’ve got a client that’s only looking for a small policy then it might not be worth going through the cost and time it takes to get an underwritten policy. Younger clients in particular have less time and money. There could be a price difference between the two policies that is so small it doesn’t make sense to take the time to go through with an underwritten policy. If a client born in 1984 needed to have a policy at $100,000 for 20 years then it will cost them around $11 a month for an underwritten policy rather than the $12 a month for a no-exam policy. That is a price difference of less than 10%. Of course the client is the one who will make the final decision, but it’s a good idea to offer a client a no exam policy at this point. While a no medical exam policy might only go up to $400,000 right now things could change in the future with more coverage offered.

  1. If They are Afraid of Doctors or Needles

There are some people who just hate going to the doctor. While it’s never fun to go through a paramedical exam for an underwritten policy, some people feel that it’s almost akin to torture at the worst, and an unnecessary unpleasantness at best. This paramedical exam can involve blood and urine samples and will often require people to welcome a complete stranger into their homes to have the exam done. Even though these examiners are almost always nice and polite, the exam itself is rarely nice.

There are also people who are just afraid of needles. The most recent reports suggest that this fear of needles affects 10% of American adults. It’s also believed that the actual number is higher. This is because extreme cases go unreported due to how infrequently these people will receive medical attention. These people would see a no-exam life insurance policy as a Godsend. You should ask your clients if there are any problems they would have with being subjected to needles and a medical exam. They often have plenty of reservations about the exam itself so you should let these people know that they don’t always have to undergo a medical exam.

  1. If it’s Been a Long Time Since they Saw a Doctor

Many advisors have found themselves dealing with clients who hear some bad news after their paramedical exam. This could be anything from a diagnosis of diabetes to an irregular electrocardiograms. In any event the client could count themselves lucky they are learning about these problems now rather than later. The problem is that it causes their insurance policy to be rejected or they may be asked to pay higher premiums. You can protect your clients from this. If it’s been a long time since they saw a physician you should recommend that they apply for a no-exam policy so that they can get coverage within 24-48 hours. You can get started with the underwritten policy while giving them a no-exam policy. You just need to get them some coverage before they take the full exam.

These no-exam life insurance policies are a pretty new policy that are going to give you a valuable weapon on your arsenal of life insurance policies. While some advisors are a little hesitant about offering these no-exam policies because they are often more expensive, it is also the responsibility of an insurance advisor to get their clients life insurance coverage when they need it. While clients might be put off of getting coverage for any number of reasons, it is also the responsibility of an insurance professional to ensure that their clients understand all of their options, including the fact that they may not need a medical exam to get life insurance. There’s never been a better time to offer no-exam life insurance policies to your clients.

What’s Asset Protection Insurance (“API™”)

While many are versed on home insurance, life insurance, car insurance and health insurance, few people know about the importance of Asset Protection Insurance (API). Asset Protection Insurance protects and safeguards assets from a variety of threats including litigation and creditor claims.  Individuals and business entities use asset protection techniques to limit creditors’ access to certain valuable assets, while operating within the bounds of debtor-creditor law.

API is a completely legal strategy.  However, experts warn effective asset protection begins before a claim or liability occurs, since it is usually too late to initiate any worthwhile protection after the fact. Some common methods for asset protection include asset protection trusts, accounts-receivable financing and family limited partnerships.

In addition to protection, Asset Protection insurance is meant to bridge the gap in coverage between your firm’s Professional Indemnity (PI) insurance policy and the total amount of a third party claim. It offers far wider and more flexible protection to the partners, members or directors than additional excess layer PI insurance on its own.

“It offers a ring-fenced financial reserve, which can be called upon to meet a number of potential costs and financial exposures if the PI insurance limit is insufficient to meet a devastating catastrophe claim,” says Perkins Slade an insurance company.

You may be asking yourself, “Well, Jeffrey Lipton what are the limitations to API?”

While API is broad and offers excellent protection, it is imperative to know how it works in order to benefit fully.  Firstly, creating an Asset Protection Strategy will offer little or no protection against those litigious or creditor situations whereby the event causing the problem happened prior to the setting up of the Strategy.

Only future-oriented protection can be achieved. 

Secondly, an iron clad Asset Protection Strategy will not offer enhanced taxation benefits and will likely be, at best, tax neutral in most cases. Although some benefits may accrue to future assets, they are best ensconced in a legal tax deferral scenario.

One of the most important aspects of a successful Asset Protection Strategy is to ensure that the structure itself is transparent. The most effective way to accomplish this besides asset protection is to insure that the assets pass irrevocably as they do in the case of API.  Under  an APIscenario assets legally change title and vest in a licensed, registered, and accountable fiduciary (i.e. the trustee) for the use of the beneficiaries.

By making the asset protection irrevocable and not a structure for tax purposes, all of the elements are declared and the client can then have the ability to use the law to in fact protect the asset. The API can then withstand the scrutiny and the test of time by being a program that accomplishes these goals for several generations to come.

Who needs API?  Any one who needs to protect themselves from economic predators, be they shareholders, clients, investors, friends or even family. An API strategy is imperative for businesses that carry the potential for litigation. These are the normal at risk businessman, professionals (i.e. doctors) and others who are either in a risk profession or have assets that need succession planning help.

A strong API strategy can protect assets and businesses that have been built over a lifetime and can give business owners and executives a deeper level of protection, thus resulting in peace of mind.

Every Retiree should Have a Pension!

Written by Steve Nyvik, BBA, MBA ,CIM, CFP, R.F.P.
Financial Planner and Portfolio Manager, Lycos Asset Management Inc.

When you’re retired, it generally makes good sense to have some part of your wealth producing a regular monthly income no matter how long you live.  If you don’t have a defined benefit pension, then you might consider a life annuity.  If the annuity is funded from personal resources (as opposed to RRSPs and corporate monies) the annuity may qualify for special tax treatment as a ‘Prescribed Annuity’.  As a result, most of the monthly receipts may be considered a tax-free return of capital giving you more after-tax income than what you’d receive from bonds or GICs.  We’ll talk about how an annuity works, how it is taxed, and the pros and cons.

 

In retirement, one should have a pension that pays you an income every month covering most of your basic living needs no matter how long you live.  If you don’t have a defined benefit pension plan, then you might consider buying a pension to supplement your retirement income – one such type of pension is a life annuity.

What’s an Annuity?

An annuity is a contract providing you with periodic cash receipts (normally monthly) in exchange for an up-front lump sum payment.  Those receipts may be for a pre-determined fixed number of payments (a “term annuity”) or they may be guaranteed for your life (a “life annuity”).

Where the annuity is with a life insurance company, the annuity contract is considered to be a form of insurance and may be protected from your creditors.

If the life insurance company defaults on its payment obligation to you, your periodic cash receipts may be covered for up to $2,000 per month or 85% of the promised monthly annuity receipts, whichever is higher through Assuris[1] (formerly Compcorp).

Where we expect to buy annuities that pay more than $2,000 a month, we might buy annuities from more than one insurer so that your entire annuity receipts are protected.

For an annuity, the amount of the periodic cash receipt you will receive for your lump sum purchase amount is dependent upon:

  • whether you select a term certain annuity or life annuity;
  • for a life annuity, the type of survivor annuity guarantee, if any, that you choose; and
  • prevailing interest rates and whether the cash receipts are to be indexed.

Having guaranteed periodic cash receipts is very attractive as you are assured a guaranteed return on your annuity capital and assured to receive a set amount regularly to cover part of your living expenses no matter how long you live.

Taxation of an Annuity

For Canadian tax purposes, annuities purchased with monies from a registered plan (eg. RRSP, RRIF or DPSP) result in the entire amount of annuity receipts to be taxed as income when received.

For annuities purchased out of “tax-paid dollars”, the receipts represent a blend of capital and interest.  The capital component being non-taxable and the interest component taxed as ordinary income.

For personal annuities purchased out of tax-paid dollars, you may choose the annuity to be taxed as a “Prescribed Annuity”[2].  In a Prescribed Annuity, the capital and interest receipts are fixed over the entire term of the annuity.  The estimated term of a life annuity is based on a standard mortality table of life expectancies.

So a Prescribed Annuity generates less taxable income in the early years than a non-Prescribed Annuity.  And if you believe you will live longer than your life expectancy, you may find a Prescribed Annuity may result in a lower amount of taxable income from the annuity throughout your lifetime.

Types of Life Annuities

a) Straight Life Annuity

Life annuities ensure that you receive a guaranteed income throughout your lifetime and not outlive your resources – no matter how long you live.

On your death the cash receipts will terminate, regardless of whether they were made for one week or for thirty years.

The amount of the cash receipts are based on annuity rates set by actuaries based on average life expectancies.  As women have a longer expected life span, the cash receipt paid to a woman will generally be lower than the annual receipt paid to a man.  A life annuity may only be sold by a life insurance company.

The Straight Life Annuity has the highest periodic cash receipt – but it is considered the riskiest form of annuity because of the possibility of premature death and loss of capital.

b) Joint Life Annuity

Under a Joint Life Annuity, in the event of your death, some portion of the cash receipts (such as 50%, 60%, 75% or 100% of the original cash receipt) will be paid to your spouse (or other named beneficiary) for the remainder of their life.

c) Life Annuity with Guarantee Period

Under a Life Annuity with Guarantee Period, cash receipts are guaranteed to be paid for your life but are guaranteed to be paid for at least a pre-determined number of years (typically 5, 10, 15 or 20 years).

In the event of your death occurring before the end of the guarantee period, cash receipts may continue to be paid for the remainder of the guarantee period to a named beneficiary, a trust or to your estate.  Alternatively, the remaining value of the guaranteed payments may be commuted with the lump sum paid to either your estate or to a named beneficiary.

d) Insured Annuity

Where preserving capital is also important, an Insured Annuity might make sense.  Under this option, both a life annuity and Term-to-100 life insurance policy are purchased.  Purchasing a life annuity allows you to receive higher cash receipts, but a portion of the receipts are used to make insurance premium payments.  So, on your death, part of your estate is preserved by the insurance proceeds that are paid either to your estate, to a named beneficiary, or to a Trust.

e) Corporate Owned Insured Annuity

An insured annuity can also make good sense as a strategy to reduce tax where it is owned through your private company.

If you own private company shares, on the last to die of you and your spouse, these shares are deemed disposed at market value resulting in capital gains taxes.  Taxes are payable a second time where company assets are disposed of (creating taxable capital gains) and distributed to shareholders (which might be in the form of dividends subject to tax).  So, your company investments are subjected to tax twice – once at your death and then again when realized and distributed.

If your company has surplus assets, it may be possible to reduce these taxes where the company buys a Non-Prescribed life annuity which reduces the pool of surplus assets.  Term-to-100 life insurance is then separately bought having a death benefit sufficient to replace the annuity capital.

What this does is convert surplus assets to a death benefit that can be excluded in valuing the company for tax purposes.  Most or all of this death benefit is credited to the Capital Dividend Account that can then be paid to your heirs tax-free.

The result is that through a corporate owned insured annuity you may be able to reduce capital gains taxes at death.  And this reduction in taxes can be greater than a plan to simply redeem company shares at death.

Annuity Illustration

Let’s say you’re a 65-year old man and you have $250,000 personally to invest.  You want to invest this money to provide you with regular income to meet your living needs.

One possibility (see “Option 1” on Schedule 1) is to buy a bond that earns 4.0%.  At the 40% tax bracket, your after-tax return is 2.7%.

Another choice (see “Option 2” on Schedule 1) is to buy a Prescribed Annuity for $250,000.  The annuity will pay you $19,996 each year no matter how long you live.  And as a Prescribed Annuity, only $5,431 of each year’s receipts is subject to income tax (i.e. 72.8% of the total receipts is a tax-free return of capital).  So at the 40% tax bracket, you’ll end up with $17,793 in your pocket each year.  A bond would have to pay interest at a rate of 11.86% to give you the same amount of income after-tax.

There are two reasons why you receive this big boost in yield.  First, you lose access to the capital – you’re only entitled to the monthly cash receipts.  This makes sense because the insurance company must invest those monies for the long term to generate excess returns to pay you your guaranteed return.

Second, on death, the cash receipts terminate leaving no annuity capital for your loved ones.  That’s where life insurance comes in.

This return of annuity capital (called an insured annuity) is shown under the third alternative (see “Option 3” on Schedule 1).  For a 65 year old non-smoking man, $250,000 of term-to-100 life insurance is purchased costing $656 per month.  (Note that with insurance you pay the first premium up-front).  That leaves $249,344 to buy the Prescribed Annuity.  The annuity will pay $19,913 each year of which $5,416 is taxable income.  When taxes of $2,167 and the full-year’s insurance premium of $7,872 are paid, you end up each year with $9,875 in your pocket.  A bond would have to pay interest at a rate of 6.58% to give you the same amount of income after-tax.

Schedule 1:  Comparing the Returns of Bonds to Annuities

Option 1

Option 2

Option 3

Option 4

Bonds

Prescribed Annuity

Insured Annuity

Charitable Insured Annuity

Investment Amount

$250,000

$250,000

$250,000

$250,000

Less: up-front insurance premium

($656)

($656)

Net Amount of Bond/Annuity Purchase

$250,000

$250,000

$249,344

$249,344

Interest Rate

4.0%

Gross Annual Income

$10,000

$19,966

$19,913

$19,913

Taxable Portion

$10,000

$5,431

$5,416

$5,416

Income Tax (40%)

($4,000)

($2,172)

($2,167)

($2,167)

Add: Charitable Credit

$3,440

After-Tax Income

$6,000

$17,793

$17,747

$21,187

Less: Annual Insurance Premium

($7,872)

($7,872)

Net Annual Income Receipts

$6,000

$17,793

$9,875

$13,315

After-Tax Cash Yield

2.40%

7.12%

3.95%

5.33%

Pre-Tax Yield

4.00%

11.86%

6.58%

8.88%

Note: The annuity is a life only annuity with no guaranteed years of payments based on a 65 year old male.  The life insurance is a Term to 100 policy for a non-smoker male age 65 at a cost of $656 per month.  This is an illustration only and does not constitute an offer to buy an annuity or life insurance.

One of the neat things about an Insured Annuity is that if your spouse dies before you, you can discontinue the term insurance.  As a result, your net after-tax receipts increase from $9,875 to $17,747; that’s 7.1% after-tax.  A bond would have to yield 11.83% to provide the same return.

If you need income and are charitably inclined, you can boost your income and also provide a nice endowment to your favorite charity.  Under this option (see “Option 4” on Schedule 1) your insurance premiums payments become charitable donations (as the charity owns the insurance) for which you’ll be entitled to the charitable credit.  Assuming you have more than $200 annually in other donations, the charitable credit on the $7,872 insurance premiums will be $3,440 (based on the highest tax bracket rate of 43.7%).  Here you’ll end up with $13,315 after-tax in your pocket each year as long as you live – almost double the after-tax income of the bond of Option 1.  A bond would have to yield 8.88% to provide the same return.  By your age 84, you’ve gotten your capital back and you’re still receiving $13,315 a year.  On your death, your favorite charity receives $250,000.

Disadvantages of Annuities

The main disadvantages of annuities are:

  • you generally lose control and access to the annuity capital – all you are entitled to is the agreed to periodic cash receipts;
  • if it is a life annuity, cash receipts terminate on your death leaving nothing for the estate value or survivors (you can, at a cost, build in guarantees – such as joint-life, guaranteed number of years of payments, or a life insurance death benefit to pay back the annuity capital);
  • Tax preferred Prescribed Annuities are by statute not indexed to inflation.  As such, the purchasing power of the monthly receipts is eroded by inflation.  So, you still need other investments to provide the inflation indexing and protect the purchasing power of your annuity;
  • with interest rates at historically low levels, the annuity monthly cash receipts have also dropped to relatively low levels.

Where an annuity makes good sense

In today’s environment of low interest rates, a life annuity can make good sense:

  • as an insured annuity where you’re in your 70s and you have at least $250,000 personally where you don’t need to touch the annuity capital to meet your living needs; or
  • as a corporate owned insured annuity where you’re in your mid-60s or older, in relatively good health, and have at least $250,000 corporately of surplus funds not needed to meet living needs.

Summary

We suggest you consider having most of your basic living needs covered by an income guaranteed to be paid no matter how long you live.  The amount of pension income you might consider buying might be:

  • your monthly living needs in retirement (say $5,000), less
  • CPP, OAS and any defined benefit pension benefits you receive.

Let’s say that the amount of pension income to buy came to $2,000, then you might consider buying a life annuity paying you $2,000 a month.

We have found that clients who have most of their living needs met with pension income are generally less stressed about their investing.  They also tend to act more rationally by emotionally being able to invest for the long term through adding to equities when they are down and taking profits when they are high.

Where an annuity doesn’t make sense for you because you require more income or require leaving an estate, then you might consider investing with Steve who follows an investment philosophy of generating income through selecting income oriented quality stocks and bonds.

The Next Step

If you would like more information about life annuities or if an annuity makes sense for you, please call Steve Nyvik.  Financial Planning is included as part of Steve’s service to his clients.  Steve can be contacted by calling: (604) 288-2083 or by email: Steve@lycosasset.com.

 

[1] Assuris is a non-profit corporation that protects Canadian policy holders against loss of benefits due to the financial failure of a member company.  All life insurance companies authorized to sell insurance policies in Canada are required, by the federal, provincial and territorial regulators, to become members of Assuris.

[2] Here are some of the conditions for an annuity to qualify as a Prescribed Annuity:

  • The annuity must be purchased with non-registered funds (not with RRSP/RRIF or corporate funds);
  • The owner and the person entitled to the payments (payee) must be the same and may not be a corporation [i.e. the owner may be an individual, testamentary trust or spouse trust];
  • The payments must begin in the current or next calendar year;
  • Annuity payments continue for a fixed term or for the life of the owner;
  • If there is a guaranteed or fixed term of payments, the guarantee cannot extend beyond the annuitant’s 91st birthday;
  • If a joint and last survivor contract, the annuitants are limited to spouses or siblings of each other;
  • The annuitant cannot surrender or commute the annuity, except on death;
  • The payments must be level (indexing is not allowed) and made at regular intervals, not less frequently than annually.

Decline the Bank Mortgage Insurance

“Would you like fries (mortgage insurance) with that (mortgage)?”
– A McDonalds sales technique

Written by Steve Nyvik, BBA, MBA ,CIM, CFP, R.F.P.
Financial Planner and Portfolio Manager, Lycos Asset Management Inc.

When you go into the Bank to finalize your mortgage, a bank employee will most likely as you to consider purchasing mortgage insurance protection.  You may be told – “it will pay your mortgage if you die; just a few medical questions; it’s inexpensive”.  While that Bank person may have had the best of intentions, he or she probably lacked the training needed to make you aware of important contractual details and how Bank coverage compares with other insurance protection options.

Here are some important things you should know about most mortgage insurance policies:

Bank, Credit Union or Trust Co. (“Bank”) Mortgage Insurance Characteristics

1. Policy ownership

Bank mortgage insurance is a Group Policy that is owned by the bank, not by you.  As such,the Bank can, in certain circumstances:

(i) cancel your coverage without your consent.

If your health worsens but then on mortgage renewal or in the event your mortgage needs change, you then may have to re-qualify for insurance (you may then be declined for insurance).  What if your financial situation worsens (let’s say you fall behind in payments) but still need insurance?

(ii) increase your premium – i.e. it is not guaranteed to be fixed for your lifetime

(iii) Coverage may terminate at age 70 even if you still have an insurance need.
(Most Banks restrict mortgage insurance to clients age 65 or younger, with coverage terminating at age 70).

2. Policy cost

(i) The cost is based on the entire group of the Bank’s insured mortgages. Generally, no distinction is made between smokers and non-smokers.  Non-smokers and healthy individuals are penalized with higher premiums!

(ii) The Bank is not providing you mortgage insurance policy quotes from several competitors.  As such, Bank insurance premiums tends to be less competitive.

3. Qualification for Coverage

(i) Policy is underwritten after death! Generally, at time of your death, your qualification for insurance is then reviewed and your application scrutinized.  As such there is no guarantee of mortgage repayment.

(ii) You may be required to re-qualify upon renewal of your mortgage.

(iii) Mortgage insurance is only in effect for as long as your current mortgage contract.  If you renegotiate your mortgage (maybe you want to finance a large renovation) or move to a new lender, you’ll likely lose your protection.  Hopefully you are healthy at that time.  You may also be subject to the current rate charged by the new Bank which likely may be substantially higher.

Personal Term Life Insurance

1. Policy ownership

You own the policy:

(i) You have freedom by not being tied to your lender – you can move your mortgage whenever and wherever you can get a better rate without jeopardizing your coverage.

(ii) Your insurance premiums may be guaranteed not to change over the life of your policy

(iii) Your policy may be non-cancellable

(iv) You may be able to modify your coverage to fit your changing circumstances – examples:

  • You have children and want additional monies available for them in the event of your death
  • If you become diagnosed with a terminal illness, coverage can be maintained for life where the coverage can be fixed and not decline with a declining mortgage balance.

(v) You choose your beneficiary and may be able to change the beneficiaries in the future

2. Policy cost

(i) The cost is based on your individual health. If you qualify for insurance, the cost can be substantially cheaper – could be as much as 40% cheaper

  • If you are a non-smoker, you benefit compared to the bank which doesn’t distinguish between smokers and non-smokers
  • If you live a healthy lifestyle, you may benefit by getting specially reduced premium

3. Qualification for Coverage

Underwriting (qualification of insurance) is done at time of application.  Once qualified, you are not at risk of losing your insurance in the future because of a change in your health.

The Next Step

See the difference?  Tell the bank you need to think about it and come see me.  After we get you better coverage for less, you can go back to the bank and tell them NO THANK YOU!   You can reach me at: (778) 878-6643 or by email: nyvik@shaw.ca

When Life Insurance Can Make Sense

“… a foolish man builds his house on the sand.  And the rain fell, and the floods came,
and the winds blew and beat against that house, and it fell, and great was the fall of it.”
– Matthew 7:24-27

 Written by Steve Nyvik, BBA, MBA ,CIM, CFP, R.F.P.
Financial Planner and Portfolio Manager, Lycos Asset Management Inc.

When building an investment portfolio, it is important to build on a solid foundation.  For this reason, it is important to consider the implications of the death, disability or illness of the family breadwinner, property loss, theft or damage, and liability claims.  That way, if a disaster does happen, the family doesn’t get wiped out in the process.

For this article, we’ll discuss the issue of life insurance.  Personally I’m not a big fan of life insurance.  I consider it an expense you shouldn’t pay for unless you clearly need the protection.  I’d like to take you through what I consider are the exceptions to where life insurance can make sense.

1. Protection of the life of the family breadwinner

For a family with young children and few financial resources, the death of the family breadwinner can leave the surviving spouse and kids without means to support themselves.  So, getting enough insurance cheaply is generally the goal.  One source for cheap insurance may be your employment group insurance.  If the cost per dollar of insurance is lower than that of buying private insurance, then you might top up your group coverage.

We’ll also check to see if your employer pays any part of the insurance cost as this “taints” the proceeds making them taxable.  Here we’ll explore whether it’s better for you to pay the entire life insurance premium (and have your employer pay more of the cost of other benefits) so that the life insurance proceeds will be tax-free.  We might also look at private term insurance to top-up your coverage if needed as the limits on group insurance may not be adequate enough for your needs.

Where you own a business

If you own a business, term insurance for which your business is the owner and beneficiary can make great sense.  Although the life insurance premium is normally not deductible, you are paying the insurance premiums that have been subjected to just the company tax rate (The small business tax rate for British Columbia is 13.5% combined).  As such, you might be able to buy up to 30% more insurance for the same money compared to buying the insurance personally from after-tax employment or dividend income.

The company owned life insurance death benefit is paid to your company on your death tax-free.  The death benefit (less the tax cost which is ‘nil’) is credited to the Capital Dividend Account.  This amount can then be paid out as a tax-free ‘capital dividend’ to your family.

Note that the company owned life insurance is an asset of your company and the death benefit can be subjected to your creditors.  Should you be in a position where you are able to retain some company income, an investment holding company can make sense as a way to remove surplus hands from exposure to potential creditors.

2. Insuring an annuity

Insurance on a life annuity to replace the capital on death can make sense.  Let’s look at annuities and then see how insurance can work together with it.

A) What is an annuity?

An annuity is a contract providing you with periodic cash receipts (usually paid monthly, quarterly or annually) in exchange for an up-front lump sum payment.  There are two types of annuities:

  • those that pay for only a specific period of time (term certain annuities), and
  • those that pay as long as you live (life annuities).

A life annuity bought from personal monies (non-RRSP/RRIF or non-company money) qualifies as a Prescribed Annuity which is entitled to beneficial taxation as only part of the income is taxable.

Let’s say you’re a 65-year old man and you have $250,000 to invest.  You want to invest this money to provide you with regular income to meet your living needs.

One possibility (see “Option 1” on Schedule 1) is to buy a corporate bond that earns 4.5%.  At the 40% tax bracket, your after-tax return is 2.7%.

Another choice (see “Option 2” on Schedule 1) is to buy a Prescribed Annuity for $250,000.  The annuity will pay you $19,996 each year no matter how long you live.  And as a Prescribed Annuity, only $5,431 of each year’s receipts is subject to income tax (i.e. 72.8% of the total receipts is a tax-free return of capital).  So at the 40% tax bracket, you’ll end up with $17,793 in your pocket each year.  A bond would have to pay interest at a rate of 11.86% to give you the same amount of income after-tax.

There are two reasons why you receive this big boost in yield.  First, you lose access to the capital – you’re only entitled to the monthly cash receipts.  This makes sense because the insurance company must invest those monies for the long term to generate excess returns to pay you your guaranteed return.

Second, on death, the cash receipts terminate leaving no annuity capital for your loved ones.

B) That’s where life insurance comes in

Where you want the annuity capital for your loved ones when you’ve passed away, you can do this through buying life insurance.  With life insurance, the annuity capital will be paid as a death benefit to your loved ones when you’ve passed away.  But to provide this return of annuity capital on death, part of the annuity cash receipts is used to pay life insurance premiums.

Schedule 1:                 Comparing the Returns of Bonds to Annuities

Option 1

Option 2 Option 3

Option 4

Bonds

Prescribed Annuity Insured Annuity

Charitable Insured Annuity

Investment Amount

$250,000

$250,000 $250,000

$250,000

Less: up-front insurance premium

($656)

($656)

Net Amount of Bond/Annuity Purchase

$250,000

$250,000 $249,344

$249,344

Interest Rate

4.5%

Gross Annual Income

$11,250

$19,966 $19,913

$19,913

Taxable Portion

$11,250

$5,431 $5,416

$5,416

Income Tax (40%)

($4,500)

($2,172) ($2,167)

($2,167)

Add: Charitable Credit

$3,440

After-Tax Income

$6,750

$17,793 $17,747

$21,187

Less: Annual Insurance Premium

($7,872)

($7,872)

Net Annual Income Receipts

$6,750

$17,793 $9,875

$13,315

After-Tax Cash Yield

2.70%

7.12% 3.95%

5.33%

Pre-Tax Yield

4.50%

11.86% 6.58%

8.88%

Note:      The annuity is a life only annuity with 0 guaranteed years of payments based on a 65 year old male.  The life insurance is a Term to 100 policy for a non-smoker male age 65 at a cost of $656 per month.  This is an illustration only and does not constitute an offer to buy an annuity or life insurance.

This return of annuity capital is shown under the third alternative (see “Option 3” on Schedule 1).  For a 65 year old non-smoking man, $250,000 of term-to-100 life insurance is purchased costing $656 per month.  (Note that with insurance you pay the first premium up-front).  That leaves $249,344 to buy the Prescribed Annuity.  The annuity will pay $19,913 each year of which $5,416 is taxable income.  When taxes of $2,167 and the full-year’s insurance premium of $7,872 are paid, you end up each year with $9,875 in your pocket.  A bond would have to pay interest at a rate of 6.58% to give you the same amount of income after-tax.

One of the neat things about an Insured Annuity is that if your spouse dies before you, you can discontinue the term insurance.  As a result, your net after-tax receipts increase from $9,875 to $17,747; that’s 7.1% after-tax.  A bond would have to yield 11.83% to provide the same return.

If you need income and are charitably inclined, you can boost your income and also provide a nice endowment to your favorite charity.  Under this option (see “Option 4” on Schedule 1) your insurance premiums payments become charitable donations (as the charity owns the insurance) for which you’ll be entitled to the charitable credit.  Assuming you have more than $200 annually in other donations, the charitable credit on the $7,872 insurance premiums will be $3,440 (based on the highest tax bracket rate of 43.7%).  Here you’ll end up with $13,315 after-tax in your pocket each year as long as you live – almost double the after-tax income of the corporate bond of Option 1.  A bond would have to yield 8.88% to provide the same return.  By your age 84, you’ve gotten your capital back and you’re still receiving $13,315 a year.  On your death your favorite charity receives $250,000.

3. Maximizing pension income

Let’s say you’re married and you participate in your employer’s defined benefit pension plan – this is a pension that provides a guaranteed amount of pension income based on your average salary and years of service.  At retirement, you’ll have to make a decision on the type of survivor benefit you wish to provide for your spouse on your death.  The problem is that the cost of a survivor pension can be very hefty.  We’ve seen these costs range as high as 20% to 35% of the unreduced (life only) pension.

Under a pension maximization strategy, you maximize your pension income by taking the life only pension only if you can buy a survivor pension at a cheaper cost elsewhere.

To see how this works, let’s assume that a life only pension (the unreduced and non-guaranteed pension) you’d receive would be $4,000 per month until you die at which time your spouse gets nothing.

You want to provide a pension to continue for your spouse after your death.  Your company offers you a 100% Joint and Last Survivor Pension.  Here this pension pays you $3,000 a month (instead of $4,000) as long as you live.  And when you die, it pays $3,000 a month (= 100% of your $3,000 pension) as long as your spouse lives.

Under a pension maximization strategy, you elect to take the life only pension of $4,000 per month if you can provide a survivor pension of $3,000 per month at a cost of less than $1,000 per month.

Let’s say we can buy an insurance policy (like a Term to 100 policy) that provides for the same $3,000 a month survivor pension at a cost of $300 per month after tax (or $500 before tax at the 40% tax bracket).  As a result, you’ll end up with $6,000 more a year in pension income.  And if your spouse dies before you, you could cancel the insurance policy and end up with $12,000 more each year of pension income.

The reason why this strategy can work is that your employer is determining your pension options based on a life expectancy table for a group of people at your retirement age – it is not based on your particular health.  So, if you’re healthy you might be able to lock-in a cost of insurance that’s cheaper than your future group rate.

4. Business insurance

There are three common situations where one might buy life insurance related to a business:

A) Key man insurance

The purpose of taking out key man insurance is to compensate the employer for the loss of income resulting from the loss of the service of a key employee in the event of their death.  For the life insurance component of the policy, it is normally term insurance over the employee’s expected employment.  (The policy might also include coverage in the event of the key person’s sickness or injury.)

Life insurance might also be provided as a remuneration retention tool as part of a group benefits package for your employees.  Although there are requirements as to the number of employees required for a group to be established and that all full-time employees may need to participate, it can represent a cost effective way of providing benefits by you that an employee might not otherwise be able to obtain on their own.  For example, an employee might not be insurable and qualify for private insurance.  Alternatively, private benefits – like extended healthcare, tend to be available to lower coverage limits or not be as comprehensive as group benefits.

B) Buy-Sell insurance

In the event of your death, a Buy-Sell Agreement funded with life insurance provides insurance proceeds to your business partner who is contractually obligated to buy out your interest in the business on your death at a guaranteed price by a guaranteed date.

Similarly, in the event of your business partner’s death, a Buy-Sell Agreement funded with life insurance (which some refer to as “Buy-Sell insurance”) provides you the proceeds to buy out your deceased partner’s business interest.  The last thing you might want is to be in business with your deceased partner’s spouse or kids.

A Buy-Sell Agreement that’s fully funded with life insurance provides an opportunity to reduce the capital gains tax liability on the deemed disposition of your shares.  For example, if your shares pass to your surviving spouse on your death and vest in their hands, you’d want your surviving spouse to have an option to redeem your shares at a pre-established fair value that’s fully funded by life insurance.  The redemption can be structured as a return of capital (for which the company is required to declare a capital dividend equal to the fair market value) and no capital gains tax might result on your shares.  If you have no spouse, there will be some amount of capital gains tax given the Stop Loss rules that limit the amount of dividend to a 50% capital dividend (with the balance a taxable dividend); however, the savings still makes good sense.

C) Maximizing your company value on your death

If you own private company shares, on the last to die of you and your spouse, these shares are deemed disposed at market value resulting in capital gains taxes.  Taxes are payable a second time where company assets are disposed of (creating taxable capital gains) and distributed to shareholders (which might be in the form of dividends subject to tax).  So, your company investments are subjected to tax twice – once at your death and then again when realized and distributed.

If your company has surplus assets, it may be possible to reduce these taxes where the company owns an insurance policy on the life of the shareholder.  Here surplus company assets are used to pay insurance costs which reduces the pool of surplus assets.  What this does is convert surplus assets to a death benefit that can be excluded in valuing the company for tax purposes.  Most or all of this death benefit is credited to the Capital Dividend Account that can then be paid to your heirs tax-free.

The result is that through insurance you may be able to reduce capital gains taxes at death.  And this reduction in taxes can be greater than a plan to simply redeem company shares at death.

The Next Step

If you think insurance can be of value to you or if you’d like us to review your existing insurance policies, please call our financial planner, Steve Nyvik.

Plan Your Business Exit

Do you have a plan in place to ensure you get a great price for your business should you become sick, disabled, die or when you decide to retire?

 

Why you need to plan ahead

If you own a business that’s growing or at least making you a decent living, chances are it may be worth a fair deal and quite possibly represents one of your most valuable assets.  So to ensure you get paid what it’s worth if you intend to sell it, or to minimize taxes on passing it to one or more of your children, you need to plan ahead for that day.

And since your ‘exit’ may not be at the time of your choosing – should you become sick, disabled or die, you need to plan now!

Without a succession plan secured with a Buy-Sell Agreement or a Shareholders’ Agreement, your business might:

  • not survive your death,
  • survive but be worth substantially less as your intended successor chooses not to pay a ‘high price’ for your business,
  • survive but materially hurt as customers are taken by competitors or ‘stolen’ by disenfranchised employees.

Your planning should consider the business acumen/capability and desires of your family members and employees in addition to your needs.  This can affect who you might sell to – be it family members, a partner, key employees, or even a supplier, customer or competitor.

You might even find that the most profitable solution might be to “grow” your own successor.  By hiring a younger person with the right skills, similar integrity as yours, and working closely with them for a few years, you’ll increase the odds that you can dictate a premium price.

The more time you have to plan, the greater the chances you’ll get more money after tax.  It takes time (read years) to find the best successor who is willing to pay the price you want, establish a Buy-Sell Agreement or Shareholders’ Agreement, fund the agreement to guarantee payment to your family should you die, get the successor up to speed with your business so that he or she has the skills needed, and ensure the structure will qualify for a tax effective transfer.

Selling assets or selling shares?

When you sell your incorporated business, you’ll have to decide between two general approaches.  Either you can have the corporation sell assets of the business, or you can sell shares of the corporation.

1. Taxation on the Sale of Shares to an Arm’s Length Party

If you sell the shares of the operating company, the disposition of shares results in a capital gain or loss.  The amount by which the proceeds of disposition exceed the Adjusted Cost Base of the shares is a capital gain; one-half of the capital gain is a Taxable Capital Gain (and this amount is taxed like investment income).

If your shares are held by you personally and are considered “Qualified Small Business Corporation Shares”, “Qualified Farm Property” or “Qualified Fishing Property”, up to $813,600 of your gain may be exempt from tax.  If your Family Trust holds these qualifying shares, it may be possible to multiply this exemption by allocating capital gain proceeds amongst beneficiaries such as you, your spouse, adult kids, and parents.

Your capital gains exemption is reduced, however, by investment losses.  The amount that your exemption is reduced by is the Cumulative Net Income Losses (CNIL) over all previous years.  The CNIL itself is increased by these amounts: interest costs on investment loans, carrying charges and interest on any business that you do not have direct control over, losses on partnerships or co-ownerships, rental or leasing losses and capital losses deducted versus capital gains that aren’t eligible for the exemption.  The CNIL balance is reduced by investment income you have received over the years including interest income and dividends.  So, you might plan to clean this up by taking relatively low cost dividends over a few years.  The exemption may also be restricted if you ever claimed an Allowable Business Investment Loss (ABIL) in which case you need some capital gains that are taxable.

 2. Taxation on the Sale of Assets to an Arm’s Length Party

No capital gains exemption is available if you sell business assets.  So from your point of view, it’s better to sell company shares.  If you sell the assets from your company, the proceeds from the sale are taxed inside a company.  You’ll also have GST/HST sales tax on asset sales.  You then have to pay tax a second time on withdrawals from the company.

How the proceeds are taxed depends on the type of assets sold and the income generated.  If you are selling depreciable assets, such as equipment, this results in recaptured depreciation if the sale proceeds exceed the Undepreciated Capital Cost (“UCC”) up to the original purchase price, thereafter you’ll have a capital gain.  Recaptured depreciation is included in income and taxed as active business income.  If sold for less than UCC, one has a deductible terminal loss.

The sale of non-depreciable non-inventory assets, such as land and building or shares of an operating company, result in a capital gain equal to the sale proceeds less Adjusted Cost Base.  One-half of capital gains is included in income and taxed as investment income (assuming it is on account of capital and not as an inventory item being sold).  The non-taxed half is added to the Capital Dividend Account where one might elect to pay out a non-taxed capital dividend.  The sale of land may result in land transfer tax.

Gains on the sale of intangibles and goodwill are also included in taxable income at a 50% inclusion rate; the taxable portion is taxed as active business income as opposed to investment income.

The type of income (i.e. active business income versus investment income) and type of corporation (for example, a Canadian controlled private corporation (“CCPC”) versus a non-CCPC) determine the corporate tax rate.

If you are trying to sell your business, the buyer may prefer to purchase assets which is usually much cheaper.  The buyer gets a higher cost on depreciable assets which will help generate more Capital Cost Allowance (CCA) or tax depreciation to offset future income.  Buying assets and not the shares is less risky to buyer as it doesn’t include your business liabilities or tax risk of potential future reassessments.

Preparing your business for sale

Having your accountant structure your ownership and cleaning up the company for sale at least 24 months in advance so it qualifies for the qualified small business capital gains exemption is just one aspect of preparing your business for sale.

You might also take steps to prepare your business so it’ll command a higher price.  For example, all of your client knowledge and details in running the business smoothly needs to get put on paper (or even better into a computer database).  If your business can be run with little or no involvement by you, then the business is worth more as there’s less key person risk.

You might also be able to increase your sales price if you strengthen its competitive position (or competitive advantage) – like operating profitable business niches with little to no competition or developing the business so that it is the lowest cost competitor.  In addition to the niche business potentially being very profitable, it might also have higher odds of transition success – where customers have little other choice to buy products or services from your business.

If your family business has more than one range of business operations, you might find that splitting it into logical focused businesses and selling each piece to the highest bidder might be more profitable than selling the whole pie to just one buyer.

When to sell?

Deciding on the best time to sell your business can be difficult.  But generally you should be able to command a significantly better price if you sell when business prospects are good and you’ve got a few years of great historical financial results.

For example, if you forecast growth of 20% and can show for the last three years 20% year over year growth, you have a good case for a premium price that reflects the prospect of future growth.

Another option might simply be for you to hold onto your business as long as you can manage especially if multiples for your industry are low.  But if this means the business isn’t well looked after and customer service deteriorates, your selling price could be accordingly affected.  So, you might end up working a few extra years and not be ahead financially.

The price

One common problem small business owners have is that of not being able to objectively arrive at a fair price.  That’s because there may not be a “stock market” or commonly known industry rules of thumb to tell them the value of their business.  So any offer that isn’t a premium offer for their baby may seem too low.

Rules of thumb used in your industry, if available, may be a helpful starting point to get some ballpark basis of worth.

A business valuator might be able to improve on this rule of thumb estimate or might possibly help bring the buyer and seller together to agree on valuation principles.  Four common valuation techniques used are:

  • Comparable Company Analysis – this is an attempt to measure value by employing the market values of public companies possessing similar attributes to your business;
  • Comparable Transaction Analysis – this is similar to the previous technique except companies used as models are those that have been recently bought or sold;
  • Discounted Cashflow – here the worth of the company is based on the total amount of after-tax cash it can generate (usually the most expensive price); and
  • Liquidation Analysis – here the worth is derived through selling off assets less the cost of satisfying debts (usually the most cheapest price).

From the amount determined based on one or a combination of the above techniques, there may be one or more valuation discounts applied such as:

  • Lack of marketability discount – this applies to closely held businesses where there is virtually no market;
  • Minority interest discount – this applies to where a buyer purchases a minority interest (less than 50% interest) in the business and doesn’t end up with control;
  • Key-person discount – this applies where the company’s success is dependent on a key person and the loss of the key person would result in adverse consequences.

With a valuation, the assumptions used can have a drastic impact in the resulting estimate of value.  So it’s important that both the buyer and seller are in agreement with the assumptions or you might end up wasting your money on the valuation.

Earn-out Arrangements

Carefully structured, an earn-out arrangement can be a win/win in that the seller likely receives a higher value for the business while the buyer minimizes the risk of goodwill impairment and obtains favourable internal financing.

And if you don’t offer an earn-out, you’ll likely eliminate many prospective buyers who’d be more than willing to pay a premium.

Converting part of the business value to tax deferred proceeds

For a larger business, the use of an Individual Pension Plan (“IPP”) or a Retirement Compensation Arrangement (“RCA”), could help you save a substantial amount in taxes by spreading taxes out over several years or by being able to shift part of the company value to tax deferred assets.

An IPP can be thought of as a super RRSP.  In most cases, IPP contributions can be substantially higher than RRSP contributions – possibly more than double what you’d otherwise be able to save in an RRSP.

Should business liability be an issue for you, an IPP comes with creditor protection (note that there is some degree of creditor protection through provincial legislation for RRSPs and RRIFs).  Although an IPP has setup fees and maintenance costs, for some people, the added savings and creditor protection are well worth the costs.

An RCA might be used to spread proceeds over several years.  It might be especially of value where you are considering becoming a non-resident and take up residency in a lower tax jurisdiction.

Either or both of these techniques should be considered many years in advance (read more at least 10 years), in order for the real power of these tools to be spectacularly effective.

Spreading the gain over time – the Capital Gains Reserve

When you sell your business, you might find it tough to get all of your money up front – it might instead be spread over a number of years.

So you might consider offering the buyer financing that may be more attractive than might otherwise be available through traditional bank financing.  And in the process you might receive some tax relief through a capital gains reserve.

This reserve allows you to bring the capital gain into income over a maximum five-year period.  Without the capital gains reserve mechanism, you’d be liable for tax on the entire capital gain triggered by the disposition in the year of sale, even though you would not yet have received the entire sale proceeds.

Note that if you are selling the shares of a QSBC, qualified farm property, or qualified fishing property, you can claim a reserve over a 10-year period.  That might be just the thing to consider if selling to your children or grandchildren.

Buy/Sell Agreement

A Buy/Sell Agreement is a contract between two parties that defines how an owner will sell a particular business interest and how a buyer will buy that interest under certain situations.

A Buy/Sell Agreement may be general in nature to cover unplanned sales (in case of death or incapacity) or it may be very definite in nature tailored to a planned sale to a known buyer (in the case of a planned retirement).

Whether you leave by choice or by chance, a Buy/Sell Agreement ensures your business interest will be transferred at a guaranteed price and on guaranteed terms.

Having the agreement in place improves the odds of the business successfully transferring at a price that can provide adequately for your family and removing uncertainty to employees and partners that depend on the business.

Non-competition agreements

Whether you sell your company’s shares or assets, the buyer will likely want you to sign a non-competition agreement to protect the value of the business.  The payment you receive for signing this (or the implied value associated with this) may be fully taxed as regular income.  However, if requirements, such as filing an election with the CRA, are met, it may be taxed at a lower rate as a capital gain.

Maximizing after tax business proceeds on death

On the last to die of you and your spouse, shares of your incorporated business is deemed disposed at market value resulting in capital gains taxes.  Taxes are payable a second time where company assets are disposed of (creating taxable capital gains) and proceeds distributed to shareholders (which might be in the form of dividends subject to tax).  So, your company investments are subjected to double tax – once at your death and then again when realized and distributed.

If your company has surplus assets, it may be possible to reduce these taxes where the company owns an insurance policy on the life of the shareholder.  Here surplus company assets are used to pay insurance costs which reduces the pool of surplus assets.  What this does is convert surplus assets to a death benefit that can be excluded in valuing the company for tax purposes.  Most or all of this death benefit (above the policy ACB) is credited to the Capital Dividend Account that can then be paid to your heirs as a tax-free capital dividend.

The result is that through insurance you may be able to reduce capital gains taxes at death.  And this reduction in taxes can be greater than a plan to simply redeem company shares at death.  The sooner you plan for this, the cheaper your cost of insurance.

Are there holes in your business exit plans?

Below are some questions to help you begin thinking about your business planning and the status of your business succession.

  1. Have you thought about what will give you a full and meaningful life? Have you priced this out so you know when you can afford to retire?  If your business is worth more than what you need, why are you not planning your exit?  What are the costs to your spouse and family of working hard in the business versus retiring where they get to spend time with you?
  2. Have you thought through the implications to you and your family in the event of a serious illness, disability, or premature death? In such events, have you developed a disaster plan to ensure that you’ll get a good price for your business backed up contractually with a Buy-Sell Agreement or a Shareholder’s Agreement?  Or have you obtained sufficient disability, critical illness and life insurance to financially ensure you and your family’s well-being?
  3. Are you dependent on your business to meet your retirement cash flow needs? Are you growing your investment portfolio so that it will eventually be able to provide you with a satisfactory pension?
  4. Do you know what your business is really worth if it were sold tomorrow? (Have you had an independent person appraise your business so you know what a market offer looks like?)
  5. Do you have enough liquidity to avoid the forced sale of your business on death? Is there enough other assets available to satisfy the tax bill?
  6. Who will be taking over, or will you sell the business? Have you considered the importance of family involvement in leadership and ownership of the company?  If family is involved in leadership, have you thought through how to fairly deal with your family who are active and those that aren’t active in the business?
  7. Is selling your business to a successor (like a capable employee or employees) the best way to maximize the proceeds from selling your business? Do you have a successor in mind for your business?  Is the successor competent, honest and trustworthy?  Is your successor someone who would want to own your business?  Is the successor ready to succeed you – does he / she have the qualifications needed?  Is there an incentive plan for your successor with effective non-compete clauses?  Have you developed a training plan for your successor?  Have you put in place a Buy-Sell or Shareholder’s Agreement with the successor?  Is the agreement secured with resources or funded by insurance to guarantee cash will be available to be paid to you or your family on your planned or unplanned departure?
  8. Are you currently using techniques to reduce or eliminate income tax and estate tax?
  9. Are you planning to utilize the Small Business Capital Gains Exemption as a way to obtain tax-free proceeds on your business exit? Have you structured the ownership of your business so that the company qualifies?  Have you structured the ownership so that you’ll be able to multiply the exemption?
  10. Have you considered alternative corporate structures, stock-transfer techniques, IPPs and RCAs to reduce or defer taxes as part of your exit plan?
  11. Are you doing everything you can do to make your business more valuable to a buyer? Are you making yourself redundant so that it can eventually operate without your showing up to work every day? Have you looked at your staff to determine the effect should on or more persons leave?  Are your staff happy and properly compensated compared to your competitors?  Do you have a backup for each key staff person should someone leave so that your business can continue to operate?

The next step

If you’ve got a saleable business and would like to put together your exit plan, please call our financial planner, Steve Nyvik. Some of the things that Steve can assist you with include:

  • reviewing your current plans and provide some constructive comments;
  • preparing a financial roadmap (otherwise called a retirement projection) so that you can know when you can afford to retire;
  • structuring your investment portfolio to resemble a pension so that it can eventually replace the income provided from your business so that you are financially independent;
  • working together with you and your tax accountants, lawyers and pension benefits consultants to help you implement a tax effective plan backed with a Buy-Sell Agreement or Shareholder’s Agreement;
  • reviewing your insurance program to determine its adequacy to fully fund the buy-out in the event of your serious illness, disability or premature death.

Written by Steve Nyvik, BBA, MBA ,CIM, CFP, R.F.P.
Financial Planner and Portfolio Manager, Lycos Asset Management Inc.

Find the right advisor!

“As a business owner or manager, you know that hiring the wrong person
is the most costly mistake you can make.”
– Brian Tracy (a leadership and sales coach and trainer)

 

Written by Steve Nyvik, BBA, MBA, CIM, CFP, R.F.P.
Financial Planner and Portfolio Manager,
Lycos Asset Management Inc.

 

For many people, hiring a financial advisor is the right thing to do.

Your financial future should not be placed in the hands of some nice guy, a family friend or former sports star, or an accountant who’s too busy and knows less than you about investments.  And you shouldn’t put your life’s savings in the hands of an investment or insurance advisor whose only qualifications are a license to sell you investments or insurance products.

A truly professional financial advisor takes a lifetime to build up their educational and professional credentials.  They’ve gone through a period of articling or training with seasoned financial advisors, they’ve seen hundreds of situations similar to yours, carry liability insurance, and adhere to a code of ethics and practice standards.

A professional financial advisor, of course, doesn’t work for free.  The payback comes through:

  • higher returns and/or lower risk by selecting the right asset mix, selecting good investments, sheltering income from taxation, controlling risk, and setting aside funds for anticipated needs (so you are not forced to have to sell investments when they are down). An experienced investment professional may also help you avoid making costly emotional or irrational investment decisions.
  • eliminating, reducing, and deferring income taxes so you’ll have more money growing faster to meet your goals;
  • protecting your family against devastating financial losses – like the death, disability or illness of the family breadwinner, property loss, theft or damage, and liability claims. Without such protection, your lifetime of savings could get wiped out; and
  • design an effective estate plan so your estate will be distributed according to your wishes, minimize tax and transfer costs, and protect your legacy from a variety of creditors.  This not only gives you peace of mind, but hopefully will ensure your life savings is there to take care of your loved ones throughout their lifetime.

Hiring a professional financial advisor doesn’t mean you have no involvement – it is your life savings, not theirs.  Your advisor is there to help you increase the odds of achieving your financial goals.

You could spend the time you need to educate yourself and dedicate the time you need to properly managing your investments, but maybe your time might be better spent bringing in the money, and then relaxing with family and friends.

Of course you want someone whose personality gels with yours who you can be comfortable with.  But you also want someone who:

  • has spent a lifetime building up their educational and professional credentials;
  • has gone through a period of articling or training with a seasoned financial advisor;
  • carries liability insurance; and
  • adheres to a code of ethics and practice standards.

You want a mature financial advisor with good judgment who:

  • you trust implicitly in their honesty;
  • provides advice that is always in your best interest and is sound where you know they are well-versed in the topics that he or she advises you in;
  • has many years of experience who has seen hundreds of situations similar to yours who has helped people solve their financial problems and put them on a path to achieving their goals;
  • has the strength to get you to stick to your plan in the tough times when they inevitably come.

Finally, you should consider the investment orientation, strategies and philosophy of the advisor:

  • What kinds of investments does the advisor invest in? – i.e. individual stocks, mutual funds, exchange traded funds?
  • How does the advisor manage risk?
  • How does the advisor decide on your asset allocation and when and how is your portfolio rebalanced?
  • Does the advisor believe the market is efficient and therefore invests exclusively in market index type investments?
  • What kind of strategies does the advisor utilize and what are the risks and returns of those strategies?
  • Does the advisor believe in employing (higher cost) fund managers in attempt to outperform the market (how does the advisor identify those managers that are skilled (versus just lucky) who have a good chance of continuing to outperform into the future)?
  • If you are investing more than $100,000, how does the advisor help you to reduce investment management fees so you keep more of your money working for you?
  • What can you expect with regard to reviews, service and financial advice?

I hope that this article helps you find the right advisor to help you achieve your financial goals.

Sincerely,

Steve Nyvik, BBA, MBA, CIM, CFP, R.F.P.