The Canada Revenue Agency (CRA) is warning Canadians shareholders of incorporated businesses against participating in a critical illness insurance scheme that may be designed to avoid paying taxes.
The arrangements often involve borrowing money using limited recourse loans and using it to pay for critical illness insurance from a foreign insurer. If the borrower doesn’t repay the loan, the lender can only go after the agreed-upon collateral.
The scheme may be promoted to Canadian taxpayers by those in Canada or abroad. A shareholder would be told to borrow money from a third-party lender connected to the promoter and transfer the funds to their corporation.
Then, the corporation buys a critical illness insurance policy from an offshore provider and records the loan from the shareholder as a liability, allowing the shareholder to withdraw tax-free funds. The insurance policy acts as security for the loan and cancels the shareholder’s obligation to repay, creating a circular funds flow.
The schemes appear to be legitimate insurance transactions, but are designed to let shareholders take money from their company without paying taxes. The CRA determined that the insurance products used often don’t meet the standards of valid insurance policies as they are only used to dodge taxes.
“Those who promote or participate in these schemes can face serious consequences, including penalties, court fines, and even jail time,” the CRA said in a release.
In 2020, the CRA had warned against partaking in similarly structured schemes using offshore disability insurance plans and leveraged insured annuities.