Insurance is often thought of as a necessary evil. This negative perception people have of the insurance industry often leads to it being overlooked – which is unfortunate, because insurance can be a powerful tool for wealth building.
Long-term disability insurance and protecting your biggest asset: The ability to earn income
At the very least, insurance can provide protection to one of our most valuable assets – our ability to earn income. The probability of experiencing a disability lasting more than 90 days before reaching retirement age is 54 per cent for a 30-year-old and declines in approximately five percentage increments to about a 33 per cent probability at age 50. Further, when a disability lasts longer than 90 days, the length of disability ranges from 2.1 to 3.2 years for those under the age of 55.
As a result, there is a high probability that many of us will need to access our long-term disability benefits at some point during our careers.
Many think the causes need be major illnesses, such as cancer or heart disease, but this is not always the case. I know first-hand of at least three individuals who have sustained long-term disabilities due to concussions. One individual had a shelf fall on her head at a restaurant. Another was rear-ended at a stop sign. The third had a nasty fall skiing.
Many employers do offer long-term disability coverage through group insurance plans and most individuals do not bother to understand the coverage. Many group plans only provide long-term disability protection against an individual’s current occupation for two years. After the two-year mark, benefits only continue to be paid in a more limited set of circumstances, which vary depending on the particulars of the plan.
Given that disabilities are often longer than two years, individuals – particularly primary breadwinners and single individuals – must ensure they have adequate coverage. This can allow coverage for the living expenses during the period of disability and also continued savings for retirement so that future lifestyle is protected.
Critical illness: Preserving savings/investments at low cost
Critical illness insurance pays a lump-sum benefit to the insured following the diagnosis of a specified list of illnesses as set out by the policy.
Benefits are paid on diagnosis, regardless of whether you recover, and can be used for whatever purpose you choose: second opinion, extending a leave, ticking something off your bucket list or hiring extra help at home during your recovery period.
Since the payment is not considered “income” it would not be taxable to the individual. Critical illness insurance can cover expenses to help you avoid dipping into savings or investments.
Some policies allow for return of premiums when the contract expires (i.e. at retirement, death or given age) so while you may forgo investment growth on the funds used to pay for the coverage, the return of premium option means the face cost of the premium is not a wholly sunk cost.
For small business owners, consideration must be given to ownership of the policy, taxation of the benefit and return of premiums since amounts paid to the corporation would not be added to the capital dividend account, as is life insurance, and therefore cannot then be paid out tax-free to the individual.
Whole life: An investment asset class
For most, life insurance is used to protect your loved ones if you die prematurely. It will cover the costs of the mortgage and replace the income you may have provided to the household.
For the affluent, life insurance can provide a significant means for maximizing the legacy for the next generation. Unrealized capital gains that arise on death can create a significant tax burden on an estate, and market volatility can be a real risk to the value of the estate if an untimely death requires assets to be liquidated to pay for taxes at inopportune points in the market. Insurance can be a valuable diversifying asset to manage risk and tax costs on the intergenerational transfer of wealth.
Whole life insurance provides not only an insurance death benefit but also has an associated investment account, subject to certain CRA rules, which has two primary wealth maximizing benefits:
- The investment income and growth accumulate tax-free (whereas if the assets remained in a non-registered or corporate account, they would be subject to tax of up to 50 per cent at the highest marginal rate); and
- Insurance proceeds are paid tax-free on death
Individuals with significant non-registered portfolios or corporate investment accounts and excess holdings that are not needed to fund their lifestyle that will invariably be passed along to the next generation, are ideal candidates for whole life insurance policies. Consider that an investment portfolio would have to achieve 8.6 per cent interest, 6.59 per cent dividend rate and 5.49 per cent capital gains to achieve the same after-tax return of a life-insurance policy with a four per cent rate of return.
Life insurance policies are particularly attractive for owners of private corporations who might otherwise find their assets “tax-trapped” inside the corporation, given the additional tax burden of extracting wealth from a corporation on the death of the shareholder. By using investment assets to buy life insurance, owners of private corporations can convert highly taxable investment assets to tax-free insurance proceeds making life insurance a valuable tool to multiplying the legacy of one’s estate.
Learn what Richardson Wealth’s vice-president of insurance services has to say about insurance as a tool for wealth management.
No matter the financial question you are grappling with, reach out to your wealth advisor for advice – true wealth accumulation is about more than investment selection.
If you have questions about intergenerational wealth management strategies, you can reach me at Joelle.Hall@RichardsonWealth.com
This article is supplied by Joelle Hall of Hall O’Brien Wealth Counsel, director, wealth management, portfolio manager and investment advisor with Richardson Wealth.
Hall O’Brien Wealth Counsel specialize in tax-efficient portfolios and planning. We speak your language, so you feel confident in the plan we implement together.
The opinions expressed in this report are the opinions of the author and readers should not assume they reflect the opinions or recommendations of Richardson Wealth Limited or its affiliates. Assumptions, opinions and estimates constitute the author’s judgment as of the date of this material and are subject to change without notice. We do not warrant the completeness or accuracy of this material, and it should not be relied upon as such. Before acting on any recommendation, you should consider whether it is suitable for your particular circumstances and, if necessary, seek professional advice. Past performance is not indicative of future results.
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Richardson Wealth Limited is a member of Canadian Investor Protection Fund. Richardson Wealth is a trademark of James Richardson & Sons, Limited used under license.
