CRA Warning – Critical Illness Insurance Misused in Aggressive Tax Avoidance Schemes

The Canada Revenue Agency (CRA) is alerting Canadians to a growing trend in tax avoidance: the misuse of critical illness insurance in complex financial arrangements designed primarily to evade taxes. While this type of insurance is intended to provide support during medical crises, some schemes are flipping its purpose—turning it into a tool for questionable tax planning.

Insurance

Critical illness insurance is straightforward in its intended use. It pays a lump sum to a policyholder diagnosed with a serious illness like cancer, a heart attack, or a stroke. The money is meant to cover medical expenses, loss of income, or support recovery when life takes an unexpected turn.

But some promoters and financial planners are packaging this legitimate product into aggressive tax schemes that go far beyond its original purpose—and that’s where the CRA has stepped in.

Schemes

Here’s how the CRA says these setups often work:

1. A shareholder borrows money from a lender tied to the promoter of the scheme.
2. That money is transferred into the corporation they control.
3. The corporation then buys a critical illness policy, sometimes from an offshore insurer.
4. The original shareholder loan is recorded as a liability, letting the individual pull money out of the business tax-free.
5. In many cases, the structure ensures the shareholder never actually repays the loan, as it’s secured against the insurance policy—creating a circular flow of funds.

The CRA is warning that these arrangements often misrepresent the insurance as legitimate coverage when, in fact, it’s just a vehicle for artificial tax advantages.

Loans

A key element of these schemes is the use of limited recourse loans. These are loans where the lender’s ability to recover the debt is restricted—often only to the insurance policy itself. If the borrower defaults, the lender can’t go after the person’s other assets. It’s this loophole that helps create the illusion of a financial liability without true risk or obligation.

This model isn’t new. The CRA has previously flagged similar strategies involving Offshore Disability Insurance Plans and Leveraged Insured Annuities, which operate on the same principles.

Penalties

If you’re involved in one of these insurance-based tax arrangements, the CRA wants you to know the consequences can be serious.

Participants—whether taxpayers, advisors, or promoters—could face:

• Reassessment: Denial of any tax benefits from the scheme.
• Financial penalties: Fines or fees for both individuals and corporations.
• Third-party penalties: For those who advised or promoted the plan.
• Criminal charges: In severe cases, including possible jail time.

The CRA has already taken enforcement action in situations where insurance products were used primarily for tax avoidance. Just because an arrangement appears to be legal on paper doesn’t mean it holds up under tax law.

Advice

The CRA’s bottom line? If an insurance-based tax plan sounds too good to be true, it probably is. They strongly urge Canadians to consult an independent, qualified tax professional before getting involved in any complicated insurance or loan arrangements—especially those involving offshore elements or circular fund transfers.

And if you’re being promised tax savings that involve borrowing money, funneling it through a corporation, and using it to buy insurance while extracting funds tax-free—it’s time to be skeptical.

Financial planning should focus on real protection and value, not just clever tax tricks. Insurance should serve its original purpose: providing peace of mind in difficult times, not acting as a shortcut through Canada’s tax system.

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