Creditor-proofing
Like most worthwhile endeavors business ownership may offer a greater opportunity for self-actualization as well as financial reward, but business risks and personal liability are more often significantly higher for a business owner (sole proprietor and/or partner) than for an employee. While business plans are always written with success in mind, there may be numerous uncontrollable risks which could affect an owner’s success. In an effort to protect a business owner from the unfortunate circumstance of bankruptcy, beyond the use of a corporate structure (as discussed elsewhere,) it may be prudent to (also) consider strategies which effectively transfer the ownership of assets to other family members or to a family trust.
Spousal transfers
Assets with unrealized capital gains may be rolled-over tax-free to a spouse, common-law spouse or spousal trust. The asset is transferred at its Adjusted Cost Base (ACB) and consequently taxes are deferred until such time as the spouse liquidates the asset or passes. Unused capital losses carried forward may be applied prior to the spousal transfer.
Inter-vivos Trusts
Asset transfers to a family trust where the settlor (transferor-business owner) is neither a beneficiary, nor Trustee are sometimes favored as the business owner can retain control (through the Trustee) of the assets. Further, assets within the trust are protected from not only the business owner’s creditors, but potential creditors of the Trust’s beneficiaries. To be valid, inter-vivos (formed in life) trust must be irrevocable, otherwise assets transferred to the trust will continue to be considered the property of the business owner and be subject to creditors.
- In circumstances where assets are transferred to a family member or trust during and/or in anticipation of bankruptcy (within one year,) the transferred assets will generally not be protected from creditors. Moreover, per the Bankruptcy Act, assets gifted or transferred at less than fair market value (ie. For a nominal value) within one year of bankruptcy must be returned to the Trustee as if no gift/transfer has taken place.
Insurance-backed solutions
Under certain circumstances, creditor protection may be afforded to contracts issued by life insurance companies; where beneficiaries (other than the owner) are named – insurance proceeds are generally perceived to fall outside of bankruptcy legislation, however in the case of segregated funds, deferred annuity and variable life annuity contracts (GMWBs) the contract must be placed directly with the insurance company and not held in nominee form (ie. held in an investment dealer.) A side benefit of naming beneficiaries on the contract may be the ability to avoid probate fees (approximately 1.4% in BC) and delays in distribution of assets. In any event, care must be taken in completing an insurance, annuity and/or segregated funds contract in an effort to prevent a challenge by potential creditors. By making a beneficiary designation irrevocable and/or by naming a spouse, child, grandchild or parent, more protection may be garnered.
