Writing for Taxation magazine’s Readers’ Forum, BKL tax consultant Terry Jordan responds to a reader’s query about life insurance.
‘My client set up a whole of life insurance policy on his own life in 1992 with the policy proceeds in trust for the benefit of his then business partner.
The business partner died in 1999 and the insurance company has held the policy proceeds for my client absolutely since then. The current life cover is £450,000 and the annual premiums are about £3,600. The current cash in value of the policy is £30,000.
My client is now 70 and is in good health. He is planning to retire soon.
He has asked me for advice on what best to do in respect of the policy. I have told him that I cannot give investment advice. I have said that I will give him some limited taxation advice and I would welcome a steer from Taxation readers on the key points.
His main options appear to be:
- set up a trust of some type and place in it the life insurance proceeds for the benefit of his two adult children; or
- assign the benefit of the policy to his children.
What are the key pros and cons of each of these two routes from a tax perspective? Do they both have the same inheritance tax outcome or does one give a more favourable result?
The insurance company does provide standard template documents for the creation of a trust. Would readers recommend that the client use these or is it best that a solicitor is appointed to prepared a bespoke trust deed?’ Query 20,191 – Confused.
Terry Jordan’s reply: The value of £30,000 would be within the client’s NRB for lifetime transfers.
‘Confused’s query relates to the inheritance tax (IHT) implications of his client dealing with a whole of life insurance policy written on the client’s life. It is implicit in the query that the client’s late business partner needed to survive the client to benefit from the policy and when he pre-deceased the client in 1999 the value reverted to the settlor. If nothing is done the life cover, currently £450,000, would form part of the client’s free estate on his death and potentially suffer IHT. The receipt of that sum might affect the residence nil rate band (NRB) taper if the total value of the estate exceeded £2m as a result.
The two possibilities under consideration are to set up a trust for the benefit of the client’s children or to simply assign the benefit of the policy to them. Since 22 March 2006 almost all lifetime transfers to trust have been immediately chargeable for IHT purposes but with a current value of £30,000 the value transferred would be comfortably within the client’s NRB unless already used. The trust would be within the relevant property regime of ten-year and proportionate or exit charges and would keep the value outside the children’s estates.
A straightforward assignment would be a potentially exempt transfer (PET) and chargeable only if the client were to die within seven years. The children would be the absolute owners and would receive the proceeds on their father’s death or earlier encashment of the policy. In both cases his £3,000 annual exemption for the current tax year and, if unused, last year’s might be set against the gifts.
So far as future payments of the c£3,600 annual premiums are concerned, they might well be covered by the exemption in respect of regular payments out of surplus income in IHTA 1984, s 2 or be mostly covered by the annual exemption in s 19.
If the standard template documents provided by the insurance company meet the client’s objective, it will save the costs of bespoke drafting by a solicitor. (The preparation of deeds is a reserved activity under the Legal Services Act 2007.)’
The full article is also available on the Taxation website.
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