The 7 Biggest Mistakes Business Owners Can Make With Life Insurance Policies
By Laura Fitzsimons
Life insurance is an important part of your financial planning puzzle because it can help provide a safety net against financial hardship. And in Canada, life insurance is a popular tax-efficient planning tool. The life insurance industry in Canada is a trillion-dollar industry, and it’s growing drastically every year. As of 2019, Canadians owned $4.8 trillion in life insurance coverage and insurers paid $13.2 billion in benefits. (1)
Here, we break down some of the most common life insurance mistakes for high-net-worth families. Don’t fall victim to them yourself!
1. Inadequate Insurance Coverage
When determining your life insurance coverage, you should take into account your family’s unique situation, including mortgage, income, debt, dependents (including future education costs), and future tax on corporate-owned assets. If you don’t have enough coverage, you risk your loved ones facing financial stress down the road.
To determine how much coverage is best, you should consider the following:
Is the purpose to replace lost income, pay off debts, cover taxes, or leave a financial legacy?
If it is to replace the lost income, then how much would your beneficiary need to invest to generate an income equivalent to what was lost? Also account for how many years the income is needed. A young person may need to replace income for 30 years, whereas someone about to retire may need to cover just a few years.
If debt is a concern, add up not just what you owe today, but consider whether you would like to cover future debt obligations like the children’s college, wedding, etc.
Death taxes aren’t only for the uber-wealthy. Upon death, if you die with a company of value, your beneficiary may be exposed to a surge in unwanted estate tax. Additional tax issues may arise for business and property owners.
If you would like to leave a bequest of money to a loved one or a favourite charity, consider the advantages of doing it via life insurance.
Keep in mind that these topics require a good understanding of financial planning and the ever-changing tax code. Hence, it’s best to sit down with an expert who will take into consideration your particular situation and provide a “Lifecycle Wealth Plan” as to what makes the most sense for you, your business, and your family.
2. Paying Your Policy in Your Operating Company
If you have a corporation, don’t assume your life insurance should be owned by your active business. Often there are tax consequences of moving a policy from one corporation to another.
That’s why it’s important to have your own policy owned in a holding corporation in the event of a sale of your business.
3. Following the Wisdom for Employees, Buy Term and Invest the Difference
Employees must pay higher personal taxes before they buy life insurance, so it often makes sense for employees to listen to this advice unless they are very wealthy. Business owners can fund life insurance at lower-taxed corporate funds. This makes protection more affordable, less taxing in the corporation, and less taxing to extract money from the corporation when the policy benefit is paid out.
4. Your Term Insurance Has Run Out or Has Become Too Expensive to Carry
If you have a low-premium term insurance policy, it’s nice to know that you are paying lower premiums for higher coverage. However, that privilege comes with a couple of trade-offs. First, you are not building any equity in the policy, meaning that when the policy term is done, you will not have anything to show for it.
Also, if by chance you become ill or have medical issues at the time your policy terms out, you may not be eligible to renew your policy or obtain a new one. This results in another scenario that would leave your loved ones with an unexpected financial risk. Given that you can find your insurance with lower taxed corporate dollars, life insurance is a tax-efficient asset class wealthy owners like for diversification.
5. Buying Life Insurance Once and Not Reevaluating
Your life insurance needs evolve. Throughout every stage of life, circumstances change and the amount and type of life insurance you need could very well change.
Additionally, insurance companies are continuously launching new products to adapt to the needs of business owners, so there may be better solutions available.A perfect example of this is life insurance with a rider that provides early access to your death benefit for the purposes of covering long-term care expenses.
6. Neglecting to Review or Update Your Life Insurance Policy
The time to review your life insurance coverage is not right after a tragic event. Many other less dramatic life changes also require another insurance review.
For example, if you added another child to your family, you might want to increase coverage. If you got a new mortgage or added either personal or corporate debt, your liabilities will increase and your policy should reflect that. If your business grows or corporate-owned real estate skyrockets, your estate tax grows, so you might want to increase your coverage.
Or maybe you’ve put your kids through college, have steadily growing savings, and have paid off the mortgage. Do you need as much coverage as you did when you had young children around? If your business assets have grown in value, you likely need to keep your protection, so you might be better off buying corporate-owned permanent insurance earlier in life.
Anytime you reach a new life milestone or experience a major change, review your coverage and update your beneficiaries.
7. Not Getting Financial and Legal Advice
Life insurance should be part of a comprehensive financial plan, especially for high-net-worth business owners. If you have a financial planner, you should be discussing how your insurance needs fit into your lifetime financial plan before purchasing a policy.
Additionally, before buying your policy, you should consider how they interact with your estate plan and be aware of any possible tax implications. Your financial life is an intricate puzzle, and it’s important to make sure every piece works together to cover your bases and get you to your goals.
If you’re not sure if your life insurance policy is right for you or you’re ready to take the plunge into corporate-owned life insurance, it can be helpful to talk to an insurance advisor and review your options, offer guidance on the products available to you and how they can integrate into your other financial strategies.
If you have questions about life insurance, want to discuss your options, or would like to schedule a review of your existing policies, contact me at firstname.lastname@example.org or call 416-577-6277 to get started.
Laura Fitzsimons is an Insurance Advisor at Lifecycle Wealth, a firm providing proprietary insurance solutions to high-net-worth professionals and business owners in Ontario, Canada. With over 35 years of experience, Laura is passionate about helping affluent Canadians keep more of what they’ve earned so they can spend their money how they want. Laura and her team do this through the Lifecycle Wealth Plan, implementing innovative tax-minimization strategies tailored to each client’s individual needs and circumstances. By working with other professionals and integrating wealth management, risk management, and personal financial planning, Laura strives to help her clients reduce their tax exposure in every stage of life, grow their business, and enhance their lifestyle.
Laura loves empowering her clients with the solutions and ideas that allow them to spend their time and money on what’s most important to them. Laurahas been awarded the Top Canadian Female Producer title with major insurers for the past 20 years. Outside of work, Laura enjoys live music, staying active, and spending time with friends and family. To learn more about Laura, connect with her on LinkedIn.