Table of Contents
- 8.1 Potential impacts of death on a business
- 8.2 Business types
- 8.3 “Key person” life insurance
- 8.4 Buy-sell agreements
8.1 Potential impacts of death on a business
Death can affect not only families, but also the stability and survival of a business — especially small or start-up businesses.
📌 Business owners should plan ahead to protect:
- Business continuity
- Financial stability
- Family fairness
- Ownership transition
A business may face several challenges when a death occurs:
➡ Loss of skills
➡ Creditor demands
➡ Family interference
➡ Equality for family members
➡ Capital gains tax on shares
8.1.1 Loss of skills
🧩 Some businesses rely heavily on one or a few critical individuals.
These individuals are called:
⭐ Key persons / key employees
They:
- Hold specialized knowledge
- Maintain client relationships
- Drive revenue
- Are hard to replace
⚠ If a key person dies, the business may suffer serious disruption or loss.
8.1.2 Creditor demands
💼 Many business loans are demand loans.
A demand loan:
- Has no fixed repayment term
- Can be repaid anytime by borrower
- Can be recalled anytime by lender (with notice)
⚠ If a key person dies:
- Creditors may worry about repayment
- Loans may be recalled
- New credit may be denied
This can strain or even cripple a business financially.
8.1.3 Family member interference
👨👩👧👦 Problems may arise when a deceased owner leaves business shares to family.
Possible issues:
- Beneficiary lacks business skills
- Beneficiary conflicts with surviving owners
- Beneficiary demands a high price to sell shares
⚠ This can create tension and disrupt operations.
8.1.4 Equality for family members
⚖ Parents often want to treat children “equally,” but equal ≠ fair.
In family businesses:
- One child may run the business
- Another may not be involved at all
📌 Succession planning helps ensure fairness.
Succession planning decides:
✔ Who will run the business
✔ Who will own the business
✔ How non-active children are treated fairly
Creative estate planning is often needed.
8.1.5 Capital gains tax for the shareholder
💰 At death, a taxpayer is deemed to dispose of assets at fair market value (unless a spousal rollover applies).
For business shares:
➡ A capital gain may arise
➡ Tax can be significant
⚠ If the estate lacks cash:
- Shares may need to be sold
- Finding buyers may be difficult
- Other assets may need to be sold to pay tax
📌 Proper planning ensures liquidity to cover taxes without harming the business.
🔑 Key takeaways
✅ Death can seriously affect a business
✅ Key person loss can disrupt operations
✅ Creditors may tighten lending
✅ Family issues can create conflicts
✅ Capital gains tax can create cash problems
✅ Advance planning protects both business and family
8.2 Business types
The impact of death on a business depends heavily on how the business is structured.
📌 The three main business structures:
- Sole proprietorship
- Partnership
- Corporation
Each has different legal, tax, and continuity implications.
8.2.1 Sole proprietorship
👤 A sole proprietorship is an unincorporated business owned by one person.
Key points:
✅ Owner and business are legally the same
✅ Owner reports business income on personal tax return
✅ Owner is personally liable for debts
⚠ Major risk:
- If the owner dies, the business ends
While the business itself cannot be transferred:
- Business assets (inventory, buildings, etc.) become part of the estate
- These assets are subject to deemed disposition at death
💡 Also, death of a key employee can harm the business.
8.2.2 Partnerships
👥 A partnership is owned by two or more people aiming to earn profit.
Types of partners:
✔ Active partners — involved in operations
✔ Passive/silent partners — invest capital but don’t manage
Key features:
- Each partner owns a partnership interest
- Each partner reports their share of income personally
- Partners are generally jointly and severally liable for debts
📌 Limited partnership:
- Limited partners share profits
- Not personally liable
- At least one general partner must be fully liable
✅ Partnership interests:
- Can be bought, sold, or inherited
- Have an adjusted cost base (ACB)
- Can trigger capital gains on sale or death
⚠ Tax liability can be significant → advance planning is essential.
8.2.3 Corporations
🏢 A corporation is a separate legal entity from its owners (shareholders).
Key features:
✅ Shareholders not personally liable for debts
(unless personally guaranteed)
⚠ Directors can be liable for:
- Corporate taxes
- Payroll deductions (income tax, CPP, EI)
📌 Tax treatment:
- Corporation pays tax on its income
- After-tax profits:
- Increase share value OR
- Are paid as dividends
Shares:
- Have an ACB
- Can create capital gains or losses on sale or death
- Require careful planning due to potential tax impact
8.2.3.1 Public vs. private corporations
📊 Public corporation:
- Listed on a stock exchange
🔒 Private corporation:
- Shares not publicly traded
A special type of private corporation is a Canadian-Controlled Private Corporation (CCPC).
A CCPC:
✔ Not publicly listed
✔ Resident in Canada
✔ Not controlled by non-residents
✔ Not controlled by public corporations
8.2.3.2 Capital gains exemption
💰 A major advantage of CCPC shares:
They may qualify for the Lifetime Capital Gains Exemption (LCGE).
📌 LCGE (2024):
- $1.25 million
- Indexed annually for inflation
This exemption can:
✅ Offset or eliminate capital gains
✅ Apply to qualified CCPC shares
✅ Apply to family farm or fishing businesses
⚠ Proper structuring and planning are critical to use this benefit.
🔑 Key takeaways
✅ Business structure affects risk and taxation
✅ Sole proprietorship ends at death
✅ Partnerships allow ownership transfer but can trigger taxes
✅ Corporations provide liability protection
✅ CCPCs offer major tax advantages
✅ Advance planning protects business value and heirs
8.3 “Key person” life insurance
A key person is someone whose skills, knowledge, or leadership are essential to a business’s success. Losing that person can seriously disrupt operations and profitability.
💡 To manage this risk, a business may purchase key person life insurance on that individual and name the business as beneficiary.
If the key person dies, the death benefit is received tax-free and can help the business:
✅ Recruit and train a replacement
✅ Replace lost revenue
✅ Cover ongoing overhead expenses
✅ Stabilize operations during transition
8.3.1 Split-dollar arrangements
A split-dollar life insurance arrangement allows two or more parties to share:
- Policy costs
- Policy benefits
- Policy ownership rights
It is often used when:
✔ One party wants insurance protection
✔ Another party wants a tax-deferred investment component
A common scenario is joint ownership between a corporation and a key employee.
How it can be structured
There are several possible structures:
Option A
- Employee controls the death benefit (face amount)
- Corporation controls the cash value
With a universal life (UL) policy:
- Employee typically controls only the original face amount
- Corporation receives the account value portion at death
Option B (most common for key person coverage)
- Corporation owns death benefit up to the face amount
- Employee owns cash value and any excess death benefit
✔ Corporation gets protection for business loss
✔ Employee gains access to tax-deferred investment growth
Premium sharing
Premiums are split based on each party’s interest:
- Corporation’s share ≈ cost of comparable term coverage
- Employee pays the remaining portion
This reflects each party’s economic benefit.
8.3.1.1 Taxation of key person split-dollar arrangements
The Income Tax Act has no specific rules for split-dollar arrangements.
However, Canada Revenue Agency (CRA) generally expects:
📌 Premium sharing to reflect fair market value (FMV) of each party’s interest.
For death benefit costs, this may be based on:
- Comparable term premiums
- Yearly renewable term (YRT) cost
- Net cost of pure insurance (NCPI)
Upon retirement or termination
If the employee leaves:
- Corporation may transfer its interest to the employee
- Transfer at FMV may create a taxable benefit
If policy is surrendered:
- Employee reports policy gain
- Gain = CSV − ACB
8.3.2 As a requirement for borrowing
When a business relies heavily on a key person, lenders may require life insurance on that person as loan security.
📌 If the key person dies:
- Lender receives enough death benefit to repay the loan
Premium deductibility
If insurance is required by the lender:
✅ Business may deduct premiums
(or NCPI for permanent insurance)
⚠ If coverage exceeds the loan:
- Deduction must be prorated
🔑 Key takeaways
✔ Key person insurance protects business continuity
✔ Death benefit supports recovery and stability
✔ Split-dollar plans share cost and benefit
✔ CRA expects fair value allocation
✔ Lenders often require key person coverage
✔ Some premiums may be deductible
8.4 Buy-sell agreements
A buy-sell agreement is commonly used in businesses with multiple owners (partnerships or private corporations) to control what happens if an owner dies.
📌 A buy-sell agreement typically specifies:
✅ Who can or must buy the deceased owner’s interest
✅ The purchase price (fixed amount or formula)
✅ How the purchase will be funded
Although buy-sell agreements can also apply to retirement, disability, or voluntary exit, here we focus on death scenarios.
8.4.1 Cross-purchase agreements
A cross-purchase buy-sell agreement applies when there are multiple owners.
📌 On the death of one owner:
- Surviving owners buy the deceased owner’s interest
- In corporations, total shares stay the same
- Each surviving shareholder owns a larger portion
8.4.2 Why buy-sell agreements are important
Buy-sell agreements protect:
✔ Surviving owners
✔ The business
✔ The deceased owner’s family or beneficiaries
They bring structure, certainty, and financial fairness.
8.4.2.1 Guaranteed buyer
🧩 Business interests are often illiquid (hard to sell).
Without an agreement:
- Family members may struggle to find buyers
- Shares or units may remain unsold
With a buy-sell agreement:
✅ A buyer is guaranteed
✅ Surviving owners or the business must purchase the interest
8.4.2.2 Guaranteed value
Buy-sell agreements define:
📌 The price OR
📌 A pricing formula
This ensures beneficiaries receive fair compensation.
8.4.2.3 Mandatory sale
Without an agreement:
⚠ Ownership could pass to someone unsuitable or incompatible.
With a buy-sell agreement:
- Estate must sell to surviving owners (cross-purchase)
- OR to the company (share redemption)
✔ Prevents unwanted partners
✔ Maintains business stability
8.4.2.4 Guaranteed funding through life insurance
💡 Funding is critical.
The most secure funding method is life insurance.
Why?
✔ Immediate liquidity at death
✔ Predictable funding
✔ Tax-free death benefit
⚠ Tax rules can be complex — professional tax advice is recommended.
8.4.3 Criss-cross insurance
Criss-cross insurance funds cross-purchase agreements.
📌 Structure:
- Each owner buys insurance on the others
- Coverage equals their buyout obligation
✔ Death benefit is tax-free
❌ Premiums are NOT deductible
⚠ Premium costs may differ due to age/health differences.
Tax note
At death:
- Deceased is deemed to dispose of business interest at FMV
- Capital gains may arise
- Lifetime Capital Gains Exemption (LCGE) may help reduce tax
For 2024, LCGE = $1.25 million.
Surviving owners use insurance proceeds to buy shares from the estate.
8.4.4 Business-owned insurance
Instead of individuals owning policies, the business owns the insurance.
Advantages
✔ Costs shared fairly despite age/health differences
✔ Owners can verify premiums are paid
✔ Corporations may buy insurance more cheaply (lower tax rates)
✔ More efficient with multiple owners
✔ Joint first-to-die policies possible (2 owners)
8.4.4.1 Role of the capital dividend account (CDA)
The capital dividend account (CDA) tracks tax-free amounts received by a private corporation.
📌 Key points:
- CDA is not a real account (notional only)
- Tracks tax-free amounts
- Allows tax-free capital dividends to shareholders
Death benefit treatment
✔ Term insurance (ACB = 0):
→ Full death benefit credited to CDA
✔ Whole life or UL:
→ Portion equal to ACB is taxable
→ Only excess goes to CDA
For simplicity, many examples assume term insurance.
8.4.4.2 Funding cross-purchase agreements
Typical flow:
1️⃣ Corporation is beneficiary
2️⃣ Death benefit paid to corporation
3️⃣ Amount credited to CDA
4️⃣ Shareholders receive capital dividend
5️⃣ Funds used to buy shares from estate
8.4.4.3 Funding share-redemption agreements
📌 Structure:
- Company owns insurance on shareholders
- Company is beneficiary
At death:
✔ Company receives death benefit
✔ Company redeems shares from estate
✔ Ownership consolidates among survivors
🔑 Key takeaways
✅ Buy-sell agreements protect owners and families
✅ They guarantee buyer, value, and funding
✅ Life insurance is the most reliable funding tool
✅ Criss-cross works well for small groups
✅ Business-owned insurance is efficient for larger groups
✅ CDA enables tax-efficient distributions
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