Updated: May 22, 2019
According to a 2014 survey by Legal and General, an eye watering £530 million was paid in inheritance tax (IHT) by people not placing their life insurance policies ‘under trust’
Putting life insurance, or life assurance policies in trust can deliver significant tax savings for your estate. Those who do not place their policy in trust and are looking to leave a legacy to their children or other loved ones could instead land them with a tax bill if their policy is included within their estate.
If you are the person with life insurance, and you are also the policyholder, the assured sum will be paid to your executors on your death. This means it will be aggregated with your other assets such as your house, cash you hold in the bank, personal possessions, investments, etc, in order to determine the overall value of your estate on your death for inheritance tax (IHT) purposes.
IHT is chargeable at 40 per cent over and above your “nil rate band” allowance, which is currently £325,000. However, if you are able to keep the assured sum out of your taxable estate then you will be able to make a significant tax saving.
Some life insurance customers may not need to put their policies into trust, because they may be designed to pay off a mortgage, or the money will go to a spouse, which makes it exempt from IHT. But by writing a life-insurance policy in trust, the proceeds from the policy can be paid directly to the beneficiaries rather than to your legal estate, and will therefore not be taken into account when inheritance tax is calculated.
This means the value of your estate may not move above the threshold, depending on your circumstances. Those with large estates may want to consider an insurance policy written in trust, specifically to cover the cost of their inheritance tax liability.
Writing a policy in trust also means payment to your beneficiaries will probably be quicker, as the money will not go through probate.
Sadly, the reality is that only a small minority place their policies in trust at the same time as taking the policy out. According to the insurer Aegon, only 6% of life-insurance policies in the UK are set up in this way. However what is maybe less well known is that there are no obstacles to assigning an existing policy to trust. Your financial adviser or lawyer will be able to advise you of the tax consequences of doing so and, prepare the necessary documentation.
Once a trust has been set up, it can’t usually be cancelled. Control is given to the trustees, so you can’t change it either. It’s therefore a good idea to take appropriate legal and tax advice before setting up a trust, so that you can make sure you have the right arrangement in place to suit your needs.
When it comes to planning your family’s financial future, it makes good sense to take all steps possible to protect them. If your insurance policy is not placed in trust, your dependents could be hit with a nasty inheritance tax bill, which could all be avoided with a bit of forward planning.