Taxation on life insurance is changing soon…

The federal government has passed new tax legislation to revise and modernize the exempt
test and related rules that determine how life insurance policies are taxed. These changes
take effect on January 1, 2017. How the changes will affect the policyholder?

As a holder of a life insurance policy, it would be very good for you to start considering reviewing your policy due to some changes that will be taking place in the near future. Chances are very high that you have never come to the realization that your annuities or your life insurance policy is mostly tax-exempt in the event that it is taken to not be savings-oriented but instead protection-oriented. The Income Tax Act stipulates that the ‘Exemption test’ is given to tell whether investments earnings resulting from the cash-value accumulation within the given life policy is liable for taxation.

In an insurance policy that is tax exempt, no tax is charged on growth of the investments within the policy that results within the set policy limits. This exemption has allowed for some flexibility with these policies as far as the investment accumulation, funding duration and amount are concerned. Over the past couple of years, the Canadian government has been putting a lot of effort in the revision of the exemption test owing to the fact that the rules it goes by were set in place in the year 1982. Since then, increases in life expectancies have been witnessed and a larger number of insurance products have also been developed.

Last year, the most recent proposal to revise the exemption test was released by the Department of Finance. In the proposal are changes to the assumptions that are considered when determining which savings component is tax exempt in a number of life insurance policies. This is geared towards limiting the amount of cash that individuals are allowed to hold in their policies as tax exempt. It further lengthens the implementation date for the exemption test changes from January 1, 2016 to January 1, 2017.

Generally, the maximum tax exempt room that is offered for a policy today will be much lower at the beginning of 2017.

What effect does this have on the Individual?

Currently, the proposal that is being made is that annuities and life insurance policies that have already been issued will be grandfathered under the current rules of the exemption test. It should however be noted by policyholders that in the event that existing policies are changed subject to legislative changes that take place in 2017, they might end up losing these grandfather privileges. This then goes to say that if you are looking to make any changes to the policies that you currently hold, it would be wise for you to make the changes before 2016 comes to a close. In the event that you need another insurance policy and you are looking to take advantage of the current tax-exempt room on the basis if the proposed grandfather privileges, there are chances that you might enjoy tax sheltering opportunities that will be available due to the funding of a policy that is tax exempt before 2017.

What to do before 2017?

When looking at your entire financial plan to secure both your future and your current needs, it would be advisable for you to also review the insurance coverage that you have taken. If you need to update your policy, it might be beneficial to do it before 2016 ends.