Leaving an impactful gift

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Sometimes your circumstances change and you no longer need an insurance policy for its intended purpose — like paying off your mortgage if you died before the loan term ended. Those policies can be gifted to charities if you're so inclined.

Some people may reach a point in their lives when they determine they’ve accumulated enough wealth to no longer need a previously purchased life insurance policy.

Those people have an option to do good with that policy simply by changing the beneficiary designation to a charity (it may have previously been intended to benefit a spouse or child).

Experts who deal with these types of donations say the process is fairly simple. The policyholder would continue paying the premiums, and at death, the charity would receive the benefit.

A policyholder may also donate the life insurance to a charity while still alive. To do that, the donor would continue to pay the premiums (with the charity as the owner) and would get a donation receipt for those payments, as well as for the fair-market value of the policy.

For purposes of the donation tax receipt, the policy’s value is generally determined by a third-party actuary.

Or, the charity could become the owner of the policy and take over paying the premiums or even find another donor to pay them, says Chris Ireland, senior vice president of planning services for PPI, a financial advisory firm in Vancouver.

Depending on tax rules and how a policy is gifted, he notes a donation could yield a substantial tax break for the policyholder’s final income tax return (the one their heirs file when settling the estate).

Say a person who donated a $1 million life insurance policy to a charity had $2 million in capital gains from the sale of shares in a family business. The taxable portion of those capital gains would be $1 million, based on Canadian tax law. But the policyholder would have a $1 million donation receipt for their final return, which essentially amounts to a tax credit that’s more or less equal to the taxes on the capital gain.

“Now you’ve used that $1 million donation of a life insurance policy to offset tax on a $2 million capital gain,” Ireland says. “You’ve given away an asset that otherwise would be there for your estate, but it’s also eliminated a significant amount of tax while being philanthropic.”

Permanent insurance works best

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Insurance policies that are fully paid up, or allow a donor to pre-fund them to pay the remaining premiums, work best for charities.

Permanent insurance policies (whole life and universal life) and term-to-100 policies are the most common for charity donations, Ireland says.

Term policies (which are usually active for shorter time periods) are generally less attractive to charities because there’s less certainty about future premium payments, since the premiums will increase every 10 or 20 years depending on the policy.

There is also some risk for a charity taking over term-to-100 policies, since the charity’s obligation to pay premiums while the insured person is still alive could end up lasting a long time. With life expectancy increasing, the runway to the charity receiving a benefit could get uncomfortably long.

By contrast, Ireland says, permanent insurance policies allow donors to prefund them by putting more cash than just the base premium into the policy. That can mean cash is already in the policy that can be used to pay for future premiums.

“From a charity's perspective, if someone was donating … a paid-up policy, that is probably the best option for them. They wouldn't have any future premium obligations when they got the policy and would then get a large amount when that insured dies.”

Benefits and concerns

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Unlike bequests made through your estate, insurance death benefits go directly to the charity, which lets them avoid probate and get your gift sooner.

Attorney and estate planning specialist John Coupar, a partner with Horne Coupar LLP in Victoria, B.C., says one of the benefits of naming a charity as a beneficiary is that the gift doesn’t have to go through the sometimes complex and time-consuming process of your estate’s administration.

“You’re not paying probate fees and lawyers, and [the gift to the charity] happens immediately,” Coupar says.

But donors should be wary of not giving something away that their estate may need in the future.

“If you have a big estate and you have $1 million in tax and you've stripped it all out by designated beneficiaries … and all of a sudden there's only $100,000 in the estate, the poor executor has a problem,” Coupar says.

In recent years, however, insurance industry regulators have expressed concerns about the practice of using life insurance as a tool for charitable giving.

Their concerns involved the ownership of life insurance policies by unrelated parties to the insured, which is largely prohibited in Canada, according to the Canadian Association of Gift Planners (CAGP). The association recently established best practice guidelines for donors, charities, advisors and insurers.

“Donors, charities and insurance advisors must act carefully to ensure compliance with the regulators,” according to the CAGP.

About the Author

Nancy Sarnoff

Nancy Sarnoff

Senior Reporter/Editor

Nancy Sarnoff is a senior reporter and editor at MoneyWise. Previously, she covered commercial and residential real estate for the Houston Chronicle where she also hosted Looped In, a podcast about the region’s growth, development and economy. Her work has been recognized by the National Association of Real Estate Editors and the Society of American Business Editors and Writers.

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