An LI Share is typically a non-voting preferred share. LI Shares are a great tool for reducing Capital Gains Tax that arises on the death of a common stock shareholder. They are also commonly used for estate equalization purposes. Most of the demand for LI Shares is being driven by specialized accountants and lawyers who are recognizing the planning opportunities LI Shares represent.

An LI Share is usually created after the company is already in existence. Typically an LI Share is issued to the heirs of a shareholder. LI Shares must be created before any life insurance policies are put inforce. Under section 86 of the ITA, the corporate capital is reorganized, creating the shares. And initially, the shares will only have a nominal value. Going forward, the Shares can be structured such that their value tracks the cash value and/or death benefit of a life insurance policy.

Once the LI Share is created the value of one or more specific life policies are attached to the LI Share. On the death of the common stock shareholder the value of the cash value may not be attributed to the value of the shareholder’s common stock. This in turn means there is a lessening of capital gains tax in the common shareholder’s estate. Now the value of the life insurance policy is paid to the specified LI Share. Then in turn a dividend is declared on that specific class of LI Share, distributing the proceeds of the specified life policy to the specified heir through the Capital Dividend mechanism.

An example at this point would be useful. Let’s look at a scenario where we have a corporation owned by a father, with two sons. Father is the sole common shareholder, and only one of the sons will continue on in the business. Father wants to allocate some of the value of the corporation to the son who will not participate in the future workings of the corporation. The corporate capital is reorganized, creating the new LI Share, with the non-participating son as the owner. The Share will be issued at a nominal value, so there are no income tax repercussions for the son. Now Father applies for a life insurance policy that has the LI Share as the beneficiary. On Father’s death, the CSV of the policy at the moment before death is allocated to the LI Share, and will not impact the value of existing common shares. The DB is paid to the LI Share and using the standard share redemption process, the LI Share is redeemed for the value of the life policy. If the life policy has no ACB, then the full amount will flow through to the LI Shareholder on a tax free basis through the CDA.

A potential risk in the use of LI Shares exists if the LI Shareholder (in this case the non-participating son) dies before the Father and he has no spouse to take advantage of spousal rollover provisions. In this instance, the deceased son’s estate will be forced to add the FMV of the LI Share to the rest of his estate value. This in turn means an increase in the value of the son’s estate, potentially creating an increased tax burden, with no actual funds being created to pay for the increased liability. An option to avoid this issue would be to create a Family Trust. The Trust would own the LI Share and would have more than one beneficiary for distribution of the LI Share proceeds.

In summary, LI Shares can be used to reduce the value of common shares on the death of a shareholder. They can also be used to direct proceeds of a life insurance policy to a specified individual for estate equalization purposes. LI Shares must be created before life insurance policies are applied for. On the death of the common shareholder/insured, the DB of the policy is paid to the LI Shareholder. The LI Share is redeemed using the death benefit of the policy, and with the use of the CDA little or no tax may be incurred by the LI Shareholder.