Capital Gains Tax Planning
Life insurance can also be an effective way of funding the tax liability that arises as a result of a deemed
disposition of capital property at death. Paragraph 70(5)(a) of the ITA provides that, unless a rollover is available,
a deceased taxpayer is deemed to have disposed of each capital property owned by him or her immediately
before death for proceeds equal to the fair market value at that time. To the extent that the fair market value
exceeds the deceased’s adjusted cost base (ACB) of the property, a capital gain will be realized for tax purposes.
The deceased may utilize any remaining capital gains exemption if the property consists of “qualified small
business corporation shares” or “qualified farm property” (both terms are defined in subsection 110.6(1) of the
ITA). Any taxable capital gains that are not sheltered by the capital gains exemption or qualify for a rollover will
be subject to tax in the deceased’s terminal return.
An individual who owns shares in a corporation, a partnership interest, or business assets (as in the case of a
sole proprietorship) will be deemed to have disposed of these properties at death. As a result, a tax liability may
arise in the form of capital gains and recaptured capital cost allowance. If funds or other assets are not available
to pay the tax liability, the shares or partnership interest may have to be sold, or business assets may have to be
liquidated, possibly for a price below the fair market value.
Life insurance may be purchased to provide the necessary funds at the right time to pay the tax liability resulting
from the capital gains and recaptured depreciation triggered upon the death of the individual. Life insurance is
a particularly valuable funding vehicle if the beneficiaries wish to retain the property or if the market conditions
will not provide the estate with an amount equal to the fair market value of the property. The individual could own
the life insurance policy, or it may be owned by the corporation or partnership and flowed out to the individual’s
estate after death.
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