Canadian estate and tax advisors may want to consider the case Connelly v. Internal Revenue Service, No. 23-146[1] (U.S. 3/27/24).  The U.S. Supreme Court (“SCOTUS“) issued its decision on June 6^th and it serves as a good reminder of the implications of corporately-owned life insurance in the context of cross-border tax and estate planning for Canadian estates.

The issue focused on the estate tax treatment of corporately-owned life insurance proceeds received by a private corporation (referred to in the U.S. as a “closely held business”) and the deceased shareholder’s redemption of shares funded by way of corporately-owned insurance. The main question is whether the life insurance proceeds received by the corporation, to be used for the redemption obligation, should increase the valuation of the ownership interest held by the estate; thus, increasing the value of the taxable estate for U.S. estate tax purposes. In other words, is the corporately-owned insurance a corporate asset when calculating the shareholder’s interest in the corporation.

The SCOTUS’ decision confirmed the IRS’ position to include the insurance proceeds in the value of the corporation’s shares for estate tax purposes. As a result of this decision, buy-sell agreements funded with insurance will continue to have implications in determining the value of the taxable estate of a deceased taxpayer. For U.S. estate and tax planning purposes, this decision emphasizes the need for strategic estate planning for business owners and the need to review their buy-sell agreement proactively and carefully.

How Is This Case Relevant to Canada?

This case is particularly relevant to our business clients who are U.S. citizens. Advisors need to carefully consider the buy-sell agreement clause in the shareholders’ agreement. This is especially true if the agreement provides for a redemption of shares funded by way of corporately-owned insurance.

Cross-border tax and estate advisors are well aware of the estate tax implications of corporately- owned insurance for a U.S. citizen. The SCOTUS’ decision confirms our clients’ potential exposure to U.S. estate tax if the corporately-owned insurance increases the value of the estate over the estate tax exemption.  This is often misunderstood or missed by Canadian estate planners.

It is worth noting that in Canada, if a shareholders’ agreement is in place, the buy-sell agreement often determines the value of the shares on the death of a shareholder; corporately- owned insurance is not considered as part of the valuation. Information Circular 89-3 provides further guidance[2] on the Canada Revenue Agency’s views of valuation of shares on death when corporately- owned insurance is in place.

Taxation at death in Canada differs from the U.S. and the SCOTUS’ decision should not have implications to Canadian estates (unless the deceased is a U.S. citizen). Nonetheless, the Re Connelly decision highlights the importance of proactive tax and estate planning for business owners and especially when drafting the buy-sell agreement in the shareholders’ agreement.

[1] Thomas A. Connelly, as Executor of the Estate of Michael P. Connelly, Sr., Petitioner v. United States

[2] Particularly paragraphs 28 and 29.