You’ve set up insurance to protect yourself, your family and your business in case something ever happens to yourself, a Partner or a key employee. Finally, you have peace of mind that you’re protected and that your family and the business will be looked after in the event if something should happen to my business partners or me. But am I done yet?
Insurance can be a huge godsend in the event of an untimely death or illness, but these policies’ use needs to be explained if something should happen. The likely vehicle of communicating this is through a Partnership Agreement or a Letter of Direction to accompany the Minutes of the Corporation. With most business insurance, the company is the beneficiary; however, the use of these designated funds need to be explained to Accountants, Legal professionals or Canada Revenue Agency.
As an example, Buy-Sell Insurance is a common practice for Partnerships. The purpose of the buy-sell insurance is in the event of an untimely death or illness of a partner in a business, the proceeds of the insurance policy are supposed to pay into the business, by utilizing the Capital Dividend Account (CDA), the value for the shares of the company are to transfer tax-free into the hands of the affected partner’s estate. The shares are effectively bought by the surviving partner using the insurance. So what could happen if this isn’t stipulated in a Partnership Agreement or Letter of Direction? The spouse of the deceased partner could refuse to sell the estate’s shares, and you could wind up with your partner’s spouse as a new business partner. This was the very reason why your business partner and yourself took out buy-sell insurance in the first place. Common sense doesn’t always prevail when dealing at a time when there’s a tremendous amount of emotion and turmoil within a company.
This could be further complicated because the present value of the business is artificially inflated due to the lump sum proceeds of the insurance.
But you have a Partnership Agreement so everything should be fine, right? When it comes to insurance, not all Accountants or Lawyers truly understand how a business leverages insurance. Often the direction given by Accountants or Legal professionals can be completely misleading or not even address how the proceeds from insurance should be utilized.
As a cautionary note, anytime a business insurance policy has been issued where the benefactor is the business, there should be an explanation of the intent of the insurance in case it is ever utilized. By addressing this proactively at the time of issue, there won’t be a need for delicate interpretation if the policy ever pays out and the intended purpose of the insurance funds.
Have your Partnership Agreement or Letter of Direction reviewed by a lawyer or accountant who specializes in this field and understands the implications of business insurance can have upon a company. You could save yourself a lot of legal headaches down the road.
Chris Coulter is the Founder and President of The Finish Line Group. Chris works with business owners to leverage their businesses to increase their wealth, reduce corporate and personal taxes, create viable succession strategies and allow them to create a strategy 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 a lot of the opportunities within his business to create significant wealth. Chris found out the difficult way and now educates business owners on how to avoid many of his former oversites and ultimately control where their finish line ends.