Cross-Border Life Insurance Part 1: Should a Canadian Living in the USA Consider Purchasing Permanent Life Insurance?
Written by Carson Hamill CIM®, CRPC®, Associate Portfolio Manager & Assistant Branch Manager & Dean Moro BComm, CIM®, Associate Portfolio Manager
Life insurance is a cornerstone of many wealth planning strategies, offering security and potential financial benefits. For Canadians residing and working in the USA, the decision to invest in permanent life insurance warrants careful consideration based on individual circumstances and future plans.
Let's explore the key factors to help you navigate this important choice.
Staying in the USA Long-Term?
If your intention is to establish permanent roots in the USA, depending on your situation purchasing permanent life insurance can be a strategic move. Policies like Universal Life (UL) and Whole Life provide lifelong coverage and accrue a cash value over time. This dual benefit serves as both a safeguard for your loved ones and an investment vehicle for future financial goals.
Considering a Return to Canada?
For Canadians considering a return to Canada in the future, the decision tends to lean towards avoiding the purchase of permanent life insurance policies. This is primarily due to concerns about how these policies issued by foreign insurers might be classified as Passive Foreign Investment Companies (PFICs) under U.S. tax law.
Understanding PFICs:
PFICs, or Passive Foreign Investment Companies PFICs, or Passive Foreign Investment Companies, are foreign corporations that meet specific criteria under U.S. tax law. These criteria typically involve generating a significant portion of their income from passive sources such as interest, dividends, rents, or royalties. When considering permanent life insurance policies issued by foreign insurers, the cash value component often generates passive income through investments. This characteristic can potentially lead to the classification of the insurance company as a PFIC.
Implications:
Owning a PFIC is akin to navigating the "Soup Nazi" of tax reporting. Just like in that infamous soup kitchen, where one wrong move gets you an immediate "No soup for you!", owning a PFIC means adhering to strict rules and regulations.
The IRS treats PFICs with a similar level of scrutiny, imposing higher tax rates and complex reporting requirements. It's as if you're constantly trying to please the tax authorities with the exact right order, just like George trying to get everything perfect with the Soup Nazi. One misstep can lead to significant tax consequences, leaving you feeling like you've been denied your tax soup.
Here's how owning a PFIC can complicate tax obligations for U.S. taxpayers:
- Excess Distribution Rules:
- Expect distributions from PFICs to potentially incur higher tax rates and additional taxes, similar to the strict policies at the Soup Nazi's counter.
- Interest Charges:
- Deferred tax liabilities related to PFICs can accrue interest charges.
- Increased Reporting Requirements:
- Filing IRS Form 8621 to report PFIC holdings significantly adds to the complexity of tax returns. This form, notorious for its length and intricacy, may take up to 40 hours to complete, adding both time and costs for your accountant. It's essential for reporting gains, distributions, income, and elections related to Qualified Electing Funds (QEFs). Given its complexity, seeking guidance from a tax professional is highly recommended to navigate these intricacies and ensure compliance with tax laws while maximizing financial benefits.
Navigating these complexities requires careful planning and expertise to ensure compliance with tax laws while maximizing financial benefits.
Conclusion:
For Canadians committed to long-term residence in the USA, permanent life insurance offers a viable solution blending insurance coverage with investment potential. However, those contemplating a return to Canada should carefully weigh the potential tax complexities associated with PFIC classification.
Seek Professional Guidance:
Before proceeding, it's crucial to consult with a financial advisor well-versed in both U.S. and Canadian tax regulations. This expert guidance ensures your decision aligns with your long-term financial objectives, minimizing unforeseen tax liabilities and optimizing the benefits of permanent life insurance.
By approaching this decision with thorough consideration and expert advice, you can confidently determine whether purchasing permanent life insurance aligns with your financial strategy and future plans.
About Snowbirds Wealth Management
Gerry Scott is a portfolio manager and founder of Snowbirds Wealth Management, an advisory firm focussed on the cross-border market. Together with Dean Moro and Carson Hamill, associate portfolio managers with Snowbirds Wealth Management, they provide investment solutions for Americans living in Canada, and Canadians residing in the United States. Licensed in both Canada and the US, they provide tailored investment solutions to minimize the tax burden when moving assets across borders.
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Statistics and factual data and other information are from sources RJLU believes to be reliable but their accuracy cannot be guaranteed. It is for information purposes only and is not to be construed as an offer or solicitation for the sale or purchase of securities nor is it meant to replace legal, accounting, taxation or other professional advice. We are not tax advisors and we recommend that clients seek independent advice from a professional advisor on tax-related matters. The information is furnished on the basis and understanding that RJLU is to be under no liability whatsoever in respect thereof.
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