Mastering IFAs for Physicians (Part 4 of 5): Tax Efficient Strategies for Your Practice – A Taxevity Companion to beyond MD Ep. 91

In the Beyond MD podcast, Dr. Yatin Chadha covers a range of financial topics to enhance real-world financial literacy. As featured guests in Episode 91 (Apple | Spotify | YouTube), we explored Immediate Financing Arrangements (IFAs) – a powerful insurance leveraging strategy helping physicians accelerate wealth building. This 5-part blog series expands on our discussion, providing deeper insights into how IFAs can support your goals for protection, growth, and impact.

Tax Efficiency Strategies for Your Practice: Unlocking the Advantages of an IFA

In the previous parts of this series, we’ve defined Immediate Financing Arrangements (IFAs), discussed ideal physician candidates, and detailed the mechanics of policy structuring and the loan process. Now, we turn to a crucial aspect for many physicians: the tax efficiency of an IFA.

When structured correctly, an IFA can offer several tax advantages, enhancing its potential to accelerate wealth accumulation for your practice and personal finances.

Deductibility of Loan Interest: A Key Tax Benefit

One of the primary tax advantages of an IFA is the potential to deduct the interest paid on the IFA loan. For physicians, this can apply whether the loan is taken personally or by your Medical Professional Corporation (MPC).

• Condition for Deductibility: The fundamental rule is that the borrowed funds must be used for the purpose of earning income from a business or property. This means you must invest the loan proceeds in assets or ventures that have a reasonable expectation of generating taxable income (e.g., interest, dividends, rental income).
  • For your MPC: This could include investing in your practice (e.g., new equipment, expansion), or other corporate investments.
  • Personally: This could involve investing in a diversified portfolio of stocks, bonds, or income-producing real estate.
• Traceability: It’s crucial to maintain a clear link, or “traceability,” between the borrowed funds and the investments made. Commingling loan proceeds with other funds can jeopardize the deductibility of the interest.

As tax rules are complex, do consult your accountant about interest deductibility for your specific situation. We prepared An Accountant’s Guide to Client Suitability and Due Diligence to support their analysis. We’re available to collaborate with your accountant to ensure your IFA is properly structured from all angles.

The Collateral Insurance Deduction: An Additional Advantage

Beyond loan interest deductibility, a portion of the life insurance premiums paid may also be deductible. This is known as the collateral insurance deduction.

• Conditions for Deductibility:
  1. The lender must be a “restricted financial institution” (which generally includes banks and credit unions).
  2. The life insurance policy must be assigned as collateral for a loan.
  3. The lender must require this assignment as a condition of granting the loan.
  4. The interest on the loan itself must be tax-deductible (as per the conditions above).
• Calculation Nuances:
  • The amount deductible is not the full premium. It’s the lesser of:
    • The actual premiums paid in the year.
    • The Net Cost of Pure Insurance (NCPI) for the policy in that year. The NCPI is an actuarially-determined value representing the “pure mortality cost” within the policy.
  • This is why, as discussed in Part 3, a “life pay” policy structure (where base premiums are technically payable for life, even if funded by dividends after an initial period) can be advantageous. It ensures a premium is “payable” each year, allowing for the potential NCPI deduction to continue. With a guaranteed limited-pay policy (e.g., 10-pay), this deduction ceases once premiums are no longer payable.
• Materiality: While valuable, the tax savings from the collateral insurance deduction are typically less significant than those from the loan interest deduction. However, it’s an additional efficiency that contributes to the overall benefits of the IFA.

Tax-Deferred Growth Within the Life Insurance Policy

A core benefit of permanent life insurance, including the whole life policies used in IFAs, is the tax-deferred growth of the cash value within the policy.

• Sheltered Accumulation: The investment component of your policy grows without being subject to annual taxation. This allows for more powerful compounding over time compared to investments held in a taxable account.
• Tax-Free Death Benefit: The death benefit paid out from a life insurance policy is generally received tax-free by the beneficiaries.
• Capital Dividend Account (CDA): For policies owned by a corporation, a significant portion of the death benefit (generally the proceeds less the policy’s Adjusted Cost Basis) can be credited to the corporation’s CDA. This allows funds to be paid out as tax-free capital dividends to shareholders (your estate or your family), which is a highly efficient way to extract wealth from your corporation.

With an IFA, the tax-sheltered investment growth continues within the whole life policy while providing access to capital for other investments.

Collaborative Expertise: Your Accountant, Wealth Advisor, and Taxevity

Navigating the complex financial, tax, and investment implications of an IFA requires a coordinated team of experts. While Taxevity provides specialized insurance advice and structures the policy optimally, your other advisors play crucial roles:

• Your Accountant is essential for:
  • Advising on the deductibility of interest and premiums based on your specific use of funds.
  • Ensuring proper record-keeping and traceability for tax purposes.
  • Helping determine the most tax-efficient structure (e.g., corporate vs. personal loan, guarantee fees).
  • Integrating the IFA into your overall corporate and personal tax planning.
• Your Wealth Advisor can be instrumental in:
  • Developing a sound investment strategy for the leveraged funds, aligned with your risk tolerance and financial goals.
  • Monitoring investment performance and making adjustments as needed.

Taxevity champions a collaborative approach. We work seamlessly alongside your existing team of independent advisors to ensure the IFA strategy is implemented effectively and aligns with your comprehensive financial plan.

By understanding and strategically utilizing these tax efficiencies, physicians can further enhance the wealth-building potential of an Immediate Financing Arrangement.

In our final part, Part 5, we will discuss navigating the risks associated with IFAs and the keys to ensuring long-term success.

Stay tuned for Part 5: Navigating Risks & Ensuring Long-Term Success

Here’s the full series on Mastering IFAs for Physicians:

Part 1: Leveraging Life Insurance for Investment

Part 2: Is This Strategy Right for Your Practice & Personal Wealth?

Part 3: Policy Structure & The Loan Explained

Part 4: Is This Strategy Right for Your Practice & Personal Wealth? (this post)

Part 5: Policy Structure & The Loan Explained

Deepen Your Understanding & Explore Your Options

Don’t miss the expert discussion on IFAs from our interview on Beyond MD with Dr. Yatin Chadha (Episode 91). You can listen on your preferred platform: Apple | Spotify | YouTube.

Maximize tax efficiency in your medical practice with strategic IFA planning. Contact Taxevity for a personalized consultation.

Promod Sharma (FSA, FCIA) and Jeevan Sharma (CFP) YOUR FAMILY TEAM

At Taxevity Insurance, we’re passionate about bringing clarity to complex financial decisions. Let us empower you with personalized strategies to achieve your goals. We focus on life and health insurance solutions to protect your business, your family, and your legacy.