Episode 101: The Waterfall Method: Transfer Wealth, Minimize Taxes, and Build a Legacy.

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Are you prepared to protect your wealth and pass it on to future generations, all while enjoying your financial gains today?

In this episode of Canadian Wealth Secrets, Kyle Pearce and Jon Orr dive into the intricacies of the “waterfall method” and its powerful role in wealth transfer. This concept is especially critical for business owners and high-net-worth individuals who want to minimize tax burdens, preserve their wealth, and create a financial legacy that endures. They also discuss how leveraging permanent insurance policies can help you invest in assets for today while safeguarding your family’s future.

• Learn how the waterfall method can optimize wealth transfer across generations while reducing tax impacts.
• Discover how to balance current spending and future security using innovative financial strategies.
• Get insights into structuring permanent insurance policies to maximize your asset potential in the short, medium, and long term.

Tune in now to explore how the waterfall method can elevate your wealth strategy and help you leave a lasting financial legacy!

Resources:

• Dig into our Ultimate Investment Book List
• Book a Discovery Call with Kyle to review your corporate (or personal) wealth strategy to help you overcome your current struggle and take the next step in your Canadian Wealth Building Journey!
• Follow/Connect with us on social media for daily posts and conversations about business, finance, and investment on LinkedIn, Instagram, Facebook [Kyle’s Profile, Our Business Page], TikTok and TwitterX.
• Looking for a new mortgage, renewal, refinance, or HELOC? Reach out to Jon to share some options.

Calling All Canadian Incorporated Business Owners & Investors:

Consider reaching out to Kyle if you’ve been…

• …taking a salary with a goal of stuffing RRSPs;
• …investing inside your corporation without a passive income tax minimization strategy;
• …letting a large sum of liquid assets sit in low interest earning savings accounts;
• …investing corporate dollars into GICs, dividend stocks/funds, or other investments attracting cordporate passive income taxes at greater than 50%; or,
• …wondering whether your current corporate wealth management strategy is optimal for your specific situation.

In this episode of Canadian Wealth Secrets, Kyle and Jon explore the “waterfall method”—a powerful strategy for transferring wealth, minimizing taxes, and building a lasting legacy. They discuss how business owners can leverage permanent insurance to grow assets, optimize wealth transfer, and balance their current spending with long-term financial security.

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Transcript:

Jon Orr: This particular episode topic, like many of our topics, is generated from the calls that we have with clients, the calls we have with people who are looking to grow their wealth. We talk with people every single day about these topics. And this one came up. So let’s get into it. What is the waterfall method? And then we’ll eventually get into like how we can use that to unlock wealth transfer.

Kyle Pearce: Yeah, absolutely. And you know, I wish this was like a creative term that you and I came up with, but it’s not, it’s actually been around for like hundreds of years. This idea of waterfall and really we’re talking waterfall outside of our own lives. You and I, John talk a lot about waterfall methods from taking our business profits and how the waterfall falls into different buckets for our investments, for our personal spending, for, you know, assets, things that we’re doing.

And we have sort of this within our own world. This is within our own business. But today we’re actually talking about the waterfall method involving insurance. And it’s really all about wealth transfer. And the beauty is today, as we dig in, we’re not just going to talk about that because right away some people might be turned off. They’re like, listen, I’m worried about me. Like I’m worried about how am I going to sustain my lifestyle into retirement? I can’t be worried about wealth transfer down the road.

but the beauty is, is the way we apply the waterfall method, you actually get your cake and you get to eat it too. Meaning you get spending now and you get to take care of this down the road when it starts to make, or starts to matter to you, I should say.

Jon Orr: And that in.

Well, and that’s the point I wanted to make here, because we talked about this on a particular episode a while back, and it’s worth repeating here, is because you may be concerned about survival, you making sure you’re continuing to run your business, and you’re trying to make ends meet, and you’re like, I’m not worried about passing this on. Like, let them handle it. But if you hit your, this is the important part, if you hit the goals you’re after,

Kyle Pearce: Not running out of money in retirement.

Jon Orr: you’re going to wish that you were back here going, I should have been thinking about this because, and this is one of those things. It’s like future John is trying to get the future John, but future John’s like, you should listen to past John because now I’m here and I hit all my goals, but I got all this wealth transfer that I got to figure out what to do with. And it was because I hit the goals that you set past John. Like, come on, man.

Kyle Pearce: Yeah, it’s it really is. This is really hard. And you know, if you’re feeling that way, we certainly don’t want you to feel like you’re a bad person for feeling it. We’ve been there. And really, that’s why we’ve done things in such a way that we’re really trying to be very holistic. And we want to make sure that we’re taking care of the short, medium and long term goals at the same time. We want what we do now to help us now and in the medium term and in the long term and in the later.

term, if that makes sense, to sort of all be working together. We don’t want them working separately. So we’ve zoomed out far enough to kind of go, okay, what’s going to matter then? And then zoomed out and said, well, what matters now? Because I don’t know about you, John. I said this on a call the right, right before we hopped on here, I said this to, to a client and we were on with his accountant and we were chatting about a specific strategy involving this waterfall method. And I said, you know, let’s be honest, I care more about what I’m going to eat today for dinner. than I do two weeks from now, right? And that’s only two weeks away. So now I want you to think about that and zoom way out and say, I care more about my income, my cashflow, my personal needs when it comes to like wealth accumulation, asset accumulation, financial planning. I care more about what’s going on now than I do 20, 30, 50 years down the road. But the beauty is imagine if you could have a good dinner tonight and

Have a great dinner in two weeks at the same time.

Jon Orr: And the reality about that is, and I’m sure, and I’m gonna push back on you here because I’m not sure that’s true if I’m a successful person who’s after success. The reason that we’re successful is because we’re excited and continually think and obsess over what I’m gonna eat two weeks from now or what I’m gonna eat a year or 10 years from now.

and what my say financial plan looks like 10 years from now. That’s what defines, I think, successful people from unsuccessful people is continually going, I do have to, you know, I am concerned about what I’m gonna eat today, but I’m actually more concerned and more excited about what I’m gonna eat 10 years from now, because that’s what keeps us going.

Kyle Pearce: Delayed gratification pieces definitely. And there’s a lot of, you know, science behind this. Yeah. Marshmallow test. There’s a lot of data research around it that the more successful people in the world are people that are able to delay gratification longer. And that marshmallow test is kind of the easiest example for those who don’t know it. You know, you basically put marshmallow on a plate in a room with a child unattended and say, listen, you can eat the marshmallow now. Or if you wait till I come back,

Jon Orr: Ooh, the marshmallow test, yeah.

Kyle Pearce: You can have two, I think it was two, but you know, I might have the details wrong. And the vast majority of kids want to eat the marshmallow now, right? They’re I don’t know when you’re coming back, so I’m gonna eat it. And then they don’t get two, but the kids who waited it out to get two, they ended up tracking these kids and they track them through life. And basically those kids were actually more successful and the same is true here. So I wanna rephrase what I said about the dinner, cause here’s the difference with the waterfall method. And I think it,

Jon Orr: That’s right.

Kyle Pearce: It’s slightly different in the nuance is that, okay, I do care about what I eat in two weeks from now, John, you know, and I do care what I eat in two months from now. And I also care that I can eat a nice dinner when I’m 65 or 70. I do care about those things. And I think you and I and those listening to this show probably all fit in there. But here’s the next part is would it be nice if the kids could also.

have that nice dinner. And I think that’s the part that may be a little bit different. Because we think about it and we go, I want to make sure that I’m good. And the reality is, and everyone is right to feel this way, we need to teach the kids to do this stuff on their own. However, if we can put them in a better spot to continue to build from where we left off, then they’re going to obviously have a better opportunity moving forward. Now,

We can get into the nuance about, why doesn’t it work out for so many families? Well, guess what? If I’m working too hard to care about doing all of these things and leaving all that money to the kids and I haven’t actually spent the time to help mentor them and actually teach them good financial skills. This could of course lead us down the wrong path. But what we’re trying to do here is we’re going, listen, if I can take care of what I need now, if I could take care of what I need later, we’ll call it the two weeks from now.

And if I could take care of also the rest of my life while not leaving too much to go away and vanish in the blink of an eye, there was a way for me to accomplish all of those things with the same general planning principles. I’m all in to do it. And this waterfall method is all about that. It’s all about wealth transfer. And one of the most famous families,

that has utilized this most effectively and most efficiently would be The Rockefellers. There is a book called, What Would or Do Like The Rockefellers Would Do. I probably butchered the title, but it’s a great book and it compares. Yeah, so it compares. It compares. We’ll put it in the show notes. It’s definitely in our book list, by the way, on CanadianWealthSecrets.com forward slash books. But in this book, they highlight the idea that, you know, the vast majority of wealthy families usually

Jon Orr: So not that title.

Kyle Pearce: end up moving from where they are and then two generations later they’ve sort of just kind of gone down to averageness and it’s because of their lack of use of the waterfall method because what ends up happening is the wealth transfer gets eaten away in a couple different ways. The two big ones one is we talk about it a lot tax right so we have taxation at death a lot of times even the most wealthy families will

you know, say borrow during their lifetime instead of triggering or crystallizing capital gains tax. Well, guess what? When we move on and the estate transfer passes from one generation to the next generation, the government then holds their hand out because there is a deemed disposition, meaning it’s like you sold the assets even though you didn’t sell the assets. So that means that that capital gains that are created

can oftentimes be quite substantial. And if there isn’t anything in place in order to deal with it, what ends up happening is we go from, 100 % net worth to, I’m going to be generous and say it’s, 75 % net worth, but it could be worse, right? Especially if you deal with, say, a holding company and you get double taxed on the shares transfer and on the deemed disposition. It can be much, much worse if you’re not properly planning.

But the reality here is that, OK, I went from whatever my net worth is now, and later today, if I move on, that net worth gets chopped down a little bit. And now I’m at 75%. Now, John, I know you had mentioned this. go, well, I mean, that’s still not bad. But then the second part comes in, which is what they call dilution. And this is the idea of if you have three kids like you do, the math’s going to work out perfect here, John. You’ve got the three girls.

Now they’re each going to get 25 % of that. I shouldn’t say 25 % of it. They’re going to get a third of the 75%. As a math teacher, I know that’s 25 % each of what your net worth was before you went on to the next world. Not a bad thing to have, but now think of the road ahead of them just to get to where you got to, which means they’ve got a quadruple that net worth each of those girls.

They now have to take that and we’re assuming they don’t have any of their own assets yet, but they’re going to have to take that over their lifetime and they’re going to have to quadruple it to get back to where you were this morning when you woke up before you passed on. And that is a hard thing for many people to achieve. And it really, if you pause for a second, you think about all the headlines about the way the middle class is gone and you’re either ultra wealthy, very small, few, know, very, very small percentage of people are ultra wealthy or

You’re now lower middle class or what they call like lower class. It makes sense because over time more and more people move on. The assets get moved along. They deplete and they dilute and now you’re left trying to rebuild what was there literally like potentially minutes before someone passes on. It’s a big big uphill battle if we don’t pay attention to it.

Jon Orr: Yeah.

Well, combine that with, you know, when you read articles or you hear about, you know, a certain generation not being able to outdo their previous generation. And I think we’re in that land right now, right? Where say our kids generation or it might even be ours. And I’m again, I’m butchering this, but is that one, you know, one of these generations is actually on record of like not being able to in the first time in history, be able to say out net worth.

their parent generation. So now combine that with what you just said is like, normally every generation does have a higher net worth, probably because you’re, you’ve, you’ve, you’ve passed on some of the state, but also those, those families have generated more net worth. but now we’re in this, this era where not only do you have, you know, dilution happening, but you also have a generation that can’t

actually get back to there. And so then then what trick like how it’s almost like when you think about like deteriorations happening and how much say the next generation has to overcome just to get back to the parent generation and then to the grandparent generation. It’s a slippery slope if we’re not if we’re not actively planning for this.

Kyle Pearce: Yeah, a hundred percent. And you know, there’s something else happening too. Like even think about how that stat of not being able to out a net worth as I think you articulated it out net worth your, your prior generation. Yeah, I like it. I think we should coin it. It’s, it’s a great term, but you know, think about what was happening that whole time as well as you know, you had inflation on your side.

Jon Orr: Yeah, I made that up. You out networked someone.

Kyle Pearce: Right? Like if you think about that from, know, I don’t know if these were in real dollar terms or not, but if you think that inflation has been, you know, devaluing the dollar, that means that, you know, say your house is worth a lot more than say your parents’ house was way back when and so forth. So it kind of makes sense that we should be out net net worthing them over time. But the reality is if that’s not happening, then we got a major problem on our hands, right? Like if that isn’t happening, then

What we’re saying is that even with the power of inflation and when things inflate, it means your net worth inflates, right? That is problematic because if you don’t have assets, you aren’t keeping up with inflation. means you’re actually going in the opposite direction, right? So if people are, you know, there’s a lot of talk right now about people saying, is it better to own a home or to rent? And a lot of people are starting to recognize it’s like it is cheaper to rent. Well, guess what?

I mean, unfortunately, what you lose with that is the capital gains exemption that you have on a primary residence, which is a massive, massive help. When we think in the long term about growing your net worth, even though it might not be the best quote unquote investment, it’s still going to grow in value. And if you’re not very good at taking the money you saved on renting instead of buying that home and putting it into assets and leaving it there, then you could actually be behind the eight ball. So for us,

Our big thought is, okay, well, what’s holding people back from applying something like the waterfall method? And if you explore online, like we’re talking like, you know, the big wealth managers out there, all the big bank wealth management, you know, arms and so forth, talk about the waterfall method, because if you have assets, the easiest way to transfer it to the next generation is through

insurance, it’s through permanent insurance, right? So those who are like, investor, you know, take term and invest the difference. Like that’s a great strategy for the now. If you just want to build assets and then you go shoot down the road, if you meet the goal, like John said, you go, well, I guess I just don’t get this aspect of it. Imagine you could have your cake and eat it too. And that’s sort of what we’ve done with our approach and our strategies is that, you know what, if we can have as many of our dollars specifically for our business owners out there,

incorporated after tax dollars inside the corporation. If we could have that active income, the retained earnings, touch these policies. What we’ll do is we’ll design the policy such that the money’s not going to sit there and rot away until we die in order to use this waterfall method, which was the old approach to how this worked. was kind of like, if you put a dollar in there, you’re not going to see that dollar. It’s going to be your daughters that see that dollar.

Well, if we structure policies more creatively and we’re more intentional about it, we can actually design it such that the dollar can touch the policy. It’s going to solve that problem down the road. But in the interim, it’s creating me an opportunity bucket that I could then leverage against in order to buy the next asset in my world. And that is going to help me now.

In the medium term, that’s like the eating in a couple of weeks and then in retirement, as well as being able to solve this waterfall method approach in order to get as much of my assets over to my estate in the least tax impacted sort of way. And it’s all done. The beautiful part is outside of the probate process. Even this happens like on the day of you can then start the process to get the assets transferring to the right individuals.in your family tree.

Jon Orr: Well, what I love about the way you just said this about kind of like using the benefit, the sort of, you know, the active benefit right now of not, you know, putting or putting that dollar into a whole life policy or permanent insurance policy now is that we get to use it. But what I like to think about it as is like, you’re almost like, you think about the metaphor of the waterfall, like,

The idea of the waterfall, right, is that the wealth transfers to the next bucket and then that transfers to the next bucket and then that, know, year to year to year, generation to generation to generation. But like what you’re doing when you use this, because you’re actively not just say putting your dollars into a policy and then letting them sit there, you’re actually gonna use the access you have, the capital, the equity you have over there.

to go and buy new assets. And what you’re really doing is because you’re using this structure and it’s going to then allow for not only your beneficiaries to keep more of the 100 % that you’re passing on, but what you’re doing is you’re almost like you’re creating a, you’re creating like Niagara Falls versus say, your local waterfall that you might pass by when you’re on the highway.

you’re strengthening up the river flow, you know, like that you’re making the water level rise higher versus say not and then just and then the waterfall just trickles, you know, afterwards.

Kyle Pearce: Well, and I had that vision as soon as you started describing the buckets, like the interesting part, which again, I’m not looking forward to this point in time when I move on, but when you move on, it’s almost like what happens is it’s like a fire hose starts to get that waterfall going. Cause like, if you just think it’s like, well, I’m just going to take the money that we have and it’s just going to like waterfall down. And it’s like, and you know, everyone, the dilution I’m picturing in my mind, it’s like, well,

if this amount of water comes out of the bucket to all these other buckets, it’s gonna be less for those buckets. But what actually happens is it’s quite the opposite. It’s like you get this fire hose of like too much money going into this one bucket. It’s like overflowing everywhere and everybody’s bucket fills up in a way that would not have happened had you not had permanent insurance in place. And the beauty is, that again, like we said, have your cake and eat it too.

You didn’t just let the money sit there and rot and wait for that moment like they did in the olden days. say olden days like my parents is, you know, I guess that’s olden days in my mind. But a lot of people would buy a specific death benefit and that dollar was gone. What’s happening here is you’re actually growing two different assets. One’s the now asset, meaning I’m growing the real estate portfolio or my index investing portfolio or my private placement portfolio. It’s up to you what you choose or maybe it’s just investing back in your business. It doesn’t matter what the investment is that dollars still being purposed in the same way. The difference is is now you have this other asset that’s not going to feel all that different to you. In the meantime, you’re going to get the net the same result over here with this business growth, except this one is going to have this like massive effect down the road.

and you still have the same asset that you would have had otherwise. The only difference is if I don’t have the permanent policy in place, when I move on, what happens is instead of that fire hose starting, you get the opposite. You actually get more of like a hose that’s like sort of half on. It’s like trickling because the government took theirs and now you have less money. And oftentimes what happens to the estate, they do a fire sale, right?

it’s like a fire theme today. We got the fire hose and we got the fire sale. Now, why do we do fire sales when people move on and they pass on assets? Well, guess what? There’s not enough liquidity in there to deal with the capital gains taxes and the other taxes that might arise. Whereas here with this large death benefit, boom, it comes and it helps to deal with all of these things. that

the estate doesn’t have to do a fire sale. They can pause, they can think about things that even if they don’t wanna be a landlord or they don’t wanna have certain assets that you had left on the balance sheet, they can take their time to do it in a way that makes sense and maximize or optimize that opportunity so that they can hang on to as much and preserve the wealth that you had left for them.

I also want to take it aside because I know that there’s some people out there that are kind of the fire movement listening and they go like John Kyle, like I’m literally just trying to get myself to my quote unquote financial freedom number so that I can live without having to work on X number of dollars. And you know, they’re, tend to be more frugal on, the spending side. I’m a frugal guy too. So I mean, I can relate, but here’s the crazy part is like, you can still do that.

without saying no to a state planning on the back end. Meaning, if you wanna be the guy that quote unquote dies with zero, meaning you’re like, hey, I did what I needed to do. I could survive over my lifetime. And I’m gonna walk outta here without maybe triggering a massive amount of capital gains, taxes at death. That’s totally cool too, but you could still achieve that.

while putting your estate in a better spot on the other end. So in my world, I say, why wouldn’t you want to at least explore it? Now, if you’re only gonna do it with tax-free savings and RSPs, and you don’t have any other buckets that are going to cause capital gains of any type, then, you know, maybe it isn’t as valuable to you, but ultimately at the end, again, that hose at the end for the estate will be more of a trickle.

instead of more of like a fire hose on the back end without having had limited you to what you could be doing and investing for you now and in the future.

Jon Orr: Love it. Love it. think my big takeaway here, Kyle, today is thinking about taking something that we were doing in our business already in terms of the waterfall technique in spilling from one bucket to the next, operational funds bucket into growth bucket into, you know, we have a policy, you know, amount for a policy bucket. And it’s like thinking about that in terms of estate planning, but then also how do I use the tools that might just, you know, that we have access to, to effectively optimize for wealth transfer?

in the waterfall technique, but also to be able to use the wealth today because I want to be able to eat my dinner today, but I also want my heirs to eat their awesome dinners later, but I want to do both. And I think that’s my big takeaway.

Canadian Wealth Secrets is an informative podcast that digs into the intricacies of building a robust portfolio, maximizing dividend returns, the nuances of real estate investment, and the complexities of business finance, while offering expert advice on wealth management, navigating capital gains tax, and understanding the role of financial institutions in personal finance. The show also digs into the underutilized corporate owned life insurance as a wealth building and Canadian tax planning tool through the use of participating whole life insurance that can not only resolve the issue of removing the income tax target from the back of your corporations retained earnings and put more money in your personal pocket both now and in the future.

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