Not automatically. The payout to the estate can be almost tax-free — while the surviving owner’s own cost base in the company never moves.
Short answer
Not automatically. When a corporation redeems a deceased shareholder’s shares using life insurance proceeds it received and holds itself, the payout to the estate can be almost entirely tax-free through the capital dividend account. But that mechanism affects the corporation’s account and the estate’s proceeds, not the surviving shareholder’s own cost base, which stays exactly what it was before the buyout even though the survivor now effectively owns the whole company.
Death itself triggers a deemed disposition of the deceased’s shares under section 70(5): the estate is treated as having “disposed of each capital property of the taxpayer and received proceeds of disposition therefor equal to the fair market value of the property immediately before the death”.
The insurance proceeds the corporation receives largely become tax-free room in its capital dividend account. Section 89(1)’s definition credits amounts “received by the corporation in the period and after 1971 in consequence of the death of any person”, reduced by “the adjusted cost basis (in this paragraph as defined in subsection 148(9)), immediately before the death”. An election under section 83(2) then lets the corporation pay that balance out tax-free: “the dividend shall be deemed to be a capital dividend to the extent of the corporation’s capital dividend account immediately before the particular time”.
None of those three provisions increases the surviving shareholder’s own cost base in their shares. A redemption reduces the number of shares outstanding and can leave the survivor owning the whole company — at the same cost base they always had, not a stepped-up one reflecting the deceased’s half of the value.
A criss-cross structure, where each owner personally holds a policy on the other and uses the payout to buy the deceased’s shares directly from the estate, produces a different result: the survivor’s purchase price becomes their new cost base for those shares. The corporate-redemption structure is simpler to fund and administer, but that simplicity is the trade-off — low tax now, no cost-base relief later.
In the Case Files library, the corporation owned the life policy and redeemed the deceased partner’s shares with it is the worked example: two unrelated partners, one corporately-owned policy on each, and a buy-sell that performed exactly as designed — while leaving the survivor holding twice the company at the same cost base as before. the loss that a capital dividend ground away and a graduated rate estate that expired before the shares sold show two other places where an estate’s tax position after death turns on which provision actually moves and which one does not.
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