Life assurance arrangements are a common way of ensuring that families are provided for on the death of a loved one. They may even be provided as part of a remuneration package by an employer, being a relatively low cost way of providing a “benefit” to the employee’s family in the event of their death.
However, as with most things involving tax, the devil is in the detail. If the arrangement isn’t set up “correctly”, the payment on death becomes part of the deceased’s estate and is potentially liable to inheritance tax at 40%.
The good news is that it is usually quite simple to avoid this by ensuring that the payment on death is linked to a trust rather than being payable directly to individuals. The added benefit of having the proceeds paid into trust is that it avoids the life assurance pay-out being caught up in probate delays, allowing the deceased’s family rapid access to the funds at a difficult time.
A straightforward form obtained from the life assurance provider and completed by the policyholder during their lifetime is usually all that is needed to ensure that any death payments are made into a trust.
Having life assurance settlements going into a trust is therefore smooth and tax efficient and typically doesn’t create any longer term tax problems, provided the trust arrangement is set up when there are no existing health problems. This is because the life assurance package has no value at that stage. However, if the individual has serious health issues at the time the life assurance package is transferred into the trust, specialist advice should be taken because HMRC might argue that the transfer has a clear financial value at the date of the transfer and hence should be included in the value of the individual’s estate should they die within 7 years of making the transfer.
The thresholds above which inheritance tax is payable have remained frozen for many years whilst assets values, particularly property values, have increased. This means that many more estates are potentially liable to inheritance tax. It is therefore wise to check that any life assurance policies are written in trust to avoid these needlessly being exposed to a 40% charge.
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