Corporate Life Insurance & CDA

The Capital Dividend Account (CDA) is a key tax planning tool for Canadian businesses, particularly when combined with corporate-owned whole life insurance policies. The CDA is a notional account, meaning it exists only for tax purposes and isn't physically held or included on a company's balance sheet. Its primary function is to allow private corporations to distribute tax-free dividends to Canadian resident shareholders, derived from specific non-taxable amounts, like the proceeds of a life insurance policy less its adjusted cost basis (ACB)​​.

When a corporation owns a whole life insurance policy on the life of a business owner or another key individual, upon the insured's death, the policy pays out a death benefit to the corporation. The portion of the proceeds that exceeds the policy's ACB can be credited to the corporation's CDA. This allows the corporation to distribute these proceeds as tax-free dividends to its shareholders​​.

The mechanics of whole life insurance policies offer additional benefits for tax planning within a corporation. For instance, participating whole life insurance policies, where the policyholder becomes a co-owner in the insurance company, can yield returns that are generally higher than fixed returns from non-participating policies. Moreover, the investment growth within these policies is sheltered from tax, and it doesn't impact the small business deduction limit since it's not considered passive income. This creates an efficient environment for retained earnings to grow within the corporate structure​​.

Additionally, the cash value of these policies, which accumulates tax-free, can be leveraged as collateral for loans. This enables business owners to access funds for personal or business use without incurring additional income tax, as borrowed money is not considered taxable income. This strategy can also facilitate a Capital Dividend Account Credit upon the policyholder's death, allowing for the withdrawal of corporate dollars up to the amount of the death benefit, tax-free​​.

In summary, corporate-owned whole life insurance policies serve multiple purposes within the framework of Canadian business and tax planning. They not only provide a death benefit that can support the company or its shareholders tax-efficiently but also act as an investment vehicle that can grow tax-free within the corporation, offer opportunities for tax-efficient financing, and enhance the liquidity and financial planning flexibility of the corporation​​​​​​.