I’ve had some interesting discussions over the years with Business Owners about insurance in general. I’ve often heard, ” it’s expensive”, “it rarely pays out”, “nothing is going to happen to me”, “I’ll self-insure instead” (I didn’t say they were all sound arguments). Whatever the argument, no one really wants to buy insurance unless they know they will get sick. At that point, they no longer qualify for insurance. That’s a tougher conversation to have with someone. What if you bought an insurance policy that was guaranteed to payout? Is that like asking someone if they would play the lottery if you were guaranteed to win? Comparing someone getting sick to winning the lottery really isn’t appropriate, but someone being diagnosed with a catastrophic illness and not having insurance coverage can be financially devastating.
A True and Scary Story
Last fall, one of my friends went in for some tests. She is healthy, never smoked and in great physical shape. She is a single mom, 49 years old and has a 13-year-old son. She received a call from the hospital where the tests were conducted. The message was, “The Doctor would like to see you as soon as possible.” Those words are enough to leave your heart in your stomach. She went to see her doctor, only to be given the worst news imaginable. The Doctor told her that she had an inoperable brain tumour. The diagnosis was not good. She could have 6 months or 6 years to live, but it was considered terminal because surgery was too risky.
She had purchased a Critical Illness policy years before for $250,000 coverage. Because she was young, the policy was fairly cheap. A month after her diagnosis, she received a lump sum payout for the entire amount. Without that money, she was a single mom with a mortgage and bills to pay like most of us. She was able to face cancer without the fear of not paying her bills and the emotional turmoil of living life with the impending fear of death around every corner.
This story ended up having a happier ending, as the cancerous tumour was miraculously getting smaller and didn’t pose the same threat that they had originally thought. She still not out of the woods yet, but at least her prognosis isn’t so grim.
The Critical Illness policy she had purchased years before played no part in her shrinking tumour, but what would her frame of mind have been like had she not had it. I’d argue a lot different.
Not All These Stories Have Happy Endings
We all know of people like my friend. It can be a spouse, family member, friend or acquaintance, but we all have been touched by someone who has had cancer or other catastrophic illnesses. Cancer, in particular, is just so random.
I had a second stage melanoma on the top of my head when I was 39 years old. I have a divot on the top of my head as a daily reminder that cancer is just so random. Even though I caught it early on, I’ve been touched by Cancer. I would invest in a Critical Illness policy in a heartbeat today, but the problem is I no longer qualify. I wish someone had told me about Critical Illness insurance when I was younger.
Split-Dollar Insurance or Shared Ownership Insurance refers to a concept where more than one party owns an insurance policy interest. The most common of these arrangements is where the corporation is the owner and beneficiary of the death benefit and the shareholder. An employee owns the cash value of the policy.
What is Split Dollar Critical Illness?
When this concept is applied to a Critical Illness policy, it is referred to as Shared Ownership or Split Dollar Critical Illness. Although the CI policy does not have cash value, there is usually an option to have a Return of premium (ROP) in the following situations:
- Upon death – If the insured dies without having submitted a claim for the critical illness, the premiums paid are refunded;
- Upon termination – If the policy reaches its termination age without a claim being made, the premiums paid are refunded;
- Upon surrender – If the policy is surrendered without a claim, premiums paid are refunded.
Who Should Consider Split Dollar Critical Illness?
Anyone who owns shares in a corporation and wishes to protect that corporation against loss if one of the shareholders or other key employee is diagnosed with a critical illness.
Who Benefits from a Split Dollar Critical Illness Insurance Policy?
Under this arrangement, the company is protected against loss but should no critical illness occur; the shareholder/employee will receive a financial benefit as the premiums paid will be refunded. Provided this is set up properly, the shareholder or business owner could receive the premium in a tax-preferred way.
These Are the Numbers
Barry applies for $500,000 of critical illness coverage with a return of premium benefit upon surrender. His company drafts a Letter of Direction and/or Shared Ownership Agreement, which stipulates that the corporation owns and is the beneficiary of the $500,000 CI benefit. In contrast, Barry owns and pays for the Return of Premium benefit.
• The total annual premium for the policy is $ 9,131.
• The Corporation pays the cost of insurance $7,003
• Barry personally pays the ROP benefit of $2,128
How does Barry Benefit?
Twenty years later, when Barry turns 60, he determines that the CI coverage is no longer required. His company cancels the policy, and Barry exercises his return of premium option. Barry receives a cheque from the insurance company for $182,628 Tax-Free.
This represents an after-tax rate of return on Barry’s annual ROP premium ($2,128) of 12.5% compound interest.
Is this an important planning strategy?
- One in three Canadians will develop life-threatening cancer;
- Half of all heart attack victims are under the age of 65;
- Each year 50,000 Canadians suffer a stroke, with 75% of all victims being left with a disability.
The Split Dollar Critical Illness Strategy can result in significant financial benefits for the individual shareholder. At the same time, the Corporation enjoys protecting its key employees against loss from a critical illness.
Call me if you would like to explore whether this strategy will benefit you and your company.
For Barry’s case study, Industrial Alliance’s Transition Critical Illness product with Flexible Return of Premium was illustrated. The results will depend on age and amount, plus product features will be varied by company.
Chris Coulter is the Founder and President of The Finish Line Group. He works with business owners to leverage their businesses to increase their wealth, reduce corporate and personal taxes, create viable succession strategies, enable employee retention strategies and allow them to exit their businesses on their terms.
Chris’ passion for what he does evolve from the mistakes he made in his first business; by not diversifying his risk and not utilizing many opportunities within his business to create significant wealth. Chris found out the difficult way and now educates business owners on avoiding many of his former oversights and ultimately controlling where their finish line ends.