Taxation of Insurance Products Flashcards

Anika takes out a loan against the cash surrender value (CSV) of her universal life insurance policy. The loan amount is $15,000. At the time of the loan, the policy's Adjusted Cost Basis (ACB) is $10,000 and the CSV is $25,000. What are the immediate tax consequences for Anika?

Answer: $5,000 is taxable as income in the year the loan is taken.

When a loan is taken from a life insurance policy, the amount of the loan that exceeds the policy's Adjusted Cost Basis (ACB) is considered a taxable policy gain and must be included in the policyowner's income for that year. In this case, the loan is $15,000 and the ACB is $10,000, so the taxable gain is $5,000 ($15,000 - $10,000).

A business owner pays the premiums for a disability insurance policy that covers her own loss of income. Which of the following statements correctly describes the tax treatment of the premiums and any potential benefits?

Answer: The premiums are not tax-deductible, and the benefits are received tax-free.

When an individual, including a self-employed business owner, personally pays the premiums for a disability insurance policy with after-tax dollars, the premiums are not tax-deductible. Consequently, any disability benefits received under the policy are tax-free.

Priya surrenders her permanent life insurance policy. The cash surrender value (CSV) she receives is $80,000. The Adjusted Cost Basis (ACB) of the policy at the time of surrender is $65,000. How much, if any, must Priya include in her taxable income for the year?

Answer: $15,000

When a life insurance policy is surrendered, the policy gain is calculated as the Cash Surrender Value (CSV) minus the Adjusted Cost Basis (ACB). This gain is fully taxable as income. In this scenario, the taxable gain is $80,000 (CSV) - $65,000 (ACB) = $15,000.

Which of the following best describes the tax treatment of a lump-sum benefit received from a personally owned critical illness insurance policy in Canada?

Answer: The benefit is received completely tax-free.

In Canada, the lump-sum benefit paid out from a personally owned critical illness insurance policy is received tax-free. This is because the premiums are paid with after-tax dollars and the benefit is not considered income by the Canada Revenue Agency (CRA).

An individual purchases a non-registered annuity and opts for prescribed taxation. How will the income payments from this annuity be taxed?

Answer: A level, uniform portion of each payment, representing interest, is taxed throughout the payment period.

A key feature of a prescribed annuity is the level tax treatment. A portion of each payment is considered a tax-free return of capital, and the other portion is considered taxable interest. This taxable interest portion is averaged and remains constant over the life of the annuity, providing a predictable tax liability.

A Canadian-controlled private corporation (CCPC) is the owner and beneficiary of a life insurance policy on its key person. Upon the key person's death, the corporation receives a $1,000,000 death benefit. The policy's Adjusted Cost Basis (ACB) at the time of death was $150,000. How does this affect the corporation's Capital Dividend Account (CDA)?

Answer: The CDA is credited with the death benefit minus the ACB ($1,000,000 - $150,000), resulting in an $850,000 credit.

For a corporately owned life insurance policy, the amount that can be credited to the Capital Dividend Account (CDA) is the total death benefit received, less the policy's Adjusted Cost Basis (ACB) at the time of death. This allows the corporation to pay out tax-free capital dividends to its shareholders. Therefore, the credit to the CDA would be $1,000,000 - $150,000 = $850,000.