Small Business Succession Planning: Life Insurance

Authors: Alain Gaucher, Q.C., Erin Smith

This post was written prior to our January 2017 merger, under our previous firm name, MacPherson Leslie & Tyerman LLP.

The death of an owner of a business, a “key person” or a major shareholder can be a very disruptive event—financially and otherwise—to an owner-managed business. In this post, the seventh and final in our series of blog posts on small business succession planning, we will explain how the proceeds from life insurance policies can help assist with the financial difficulties that may arise as a result of such a death.

Previous posts in this series have stressed the importance of succession planning for owner-managed businesses and reviewed how each of the following can assist in the succession planning process:

The following are five common ways life insurance proceeds can provide a benefit to a business and its shareholders upon the death of a key member of the business.

  1. Funding the purchase of shares held by the deceased owner to provide a spouse with retirement security.
  2. Funding the purchase of shares held by the deceased owner to achieve equity between those children receiving the business and those not receiving the business.
  3. Providing a benefit to the company on the death of a “key person”.  Such funds can assist in covering any short-term financial problems caused by the death or can fund the hiring and training of new management personnel.
  4. Funding payment of company debt so that the successors will not be financially burdened.
  5. Providing funds to the deceased’s estate for estate liquidity purposes, including the payment of taxes arising on the deceased’s death.

Life insurance is often owned through a company as it may be less expensive on an after-tax basis and may reduce the capital gain tax on an owner’s shares at death.  Private companies also have the ability to pay a considerable amount of the life insurance proceeds received out of the company tax free.

Life insurance can also be used as a retirement planning vehicle. An “exempt” life insurance policy can earn income on a basis that will not be taxed annually, and the build-up in cash value of the policy can be used to provide retirement benefits to an owner.

Those with owner-managed businesses are encouraged to talk to a legal professional, insurance advisor or financial advisor about how life insurance can play a role in succession planning for their business.