Inheritance Tax

What is whole-of-life cover and how does it differ from term life insurance?

Almost all individual protection is done on a term basis. That means you choose how long it runs for, perhaps up to a specific age or a number of years. If the insured event doesn’t happen before that end date, you don’t get a payout – but that’s good, of course, because it means you haven’t died or become seriously ill.

Whole-of-life turns it from insurance to assurance – in the sense that it is guaranteed to pay out. You need to keep up with the payments, obviously, and ensure everything you tell the insurer at the outset is accurate.

With inheritance tax, you need tax advice first. While that could mitigate everything, it’s likely not to. If you still have an IHT problem with the remaining estate, you can do a couple of different things.

You can take a term policy out – although this almost always has to end before your 91st birthday. If that’s a joint policy and one of you survives past this age, the policy ends and won’t pay out.

A whole-of-life protection policy can help with this problem – because as long as you maintain the payments it will pay out when you die, and the beneficiaries will receive the money.

There are some things to explore here. In many married couples, assets pass to the surviving spouse first, at which point there is often no inheritance tax liability due to spouse exemption. The inheritance tax liability may then arise on the second death, when assets pass to children or other beneficiaries.

If you don’t have inheritance tax insurance, the government will then require the children or other descendents/beneficiaries to pay an IHT bill of 40% on anything over £1 million. That might mean selling assets or raising loans. There can be penalties if the IHT isn’t paid within a six-month window.

A whole-of-life joint second death option may be the answer here. A whole-of-life policy that pays out when the husband dies wouldn’t really be needed – because there’s no inheritance tax charge at that point.

But if it’s structured on a second death basis, firstly it’s cheaper, because premiums tend to be paid for longer. Secondly, and crucially, that money is paid into Trust outside the estate. That means the beneficiaries have quicker access to it and don’t have to sell assets to pay the IHT bill.

People expect this to be really expensive, and that they need to cover themselves for more than £1 million. But you only need to fund 40% of what’s over that £1 million threshold.

Depending on age, health, premium basis and longevity, whole-of-life cover can sometimes provide a cost-effective way of helping beneficiaries meet a future inheritance tax liability.

What is Rysaffe planning?

Whole-of-life policies are often written into discretionary trusts. Depending on the structure used, periodic and exit charge considerations can arise under relevant property trust rules.

One approach sometimes used is known as ‘Rysaffe planning’, where multiple policies are placed into separate trusts over different days. This may help reduce future periodic charge exposure, although specialist legal and tax advice is essential as outcomes depend on individual circumstances and prevailing legislation.

What is gift inter vivos insurance and how does it work?

Gift inter vivos plans are policies that mirror taper relief. You can mitigate some IHT by gifting shares, cash or assets to others, and these are usually potentially exempt transfers (PETs). That means there’s no IHT to pay if you survive for seven years. If the donor dies within seven years, the gift may still be considered when calculating inheritance tax. In some circumstances, taper relief may reduce the amount of tax payable after three years.

For the first three years, these gifts are considered to be 100% within your estate. The next year it drops to 80%, then 60%, 40%, 20%, and after seven years they’re not in your estate at all.

So what you can do is put a suite of five policies in place, with a three, four, five, six, and seven-year term, each covering 20% of the IHT liability. As the IHT liability falls by 20% after year three, those policies also drop away.

If you’ve got a mortgage, you might have a decreasing life insurance policy to roughly mirror the mortgage debt. With gift inter vivos insurance, rather than a downwards slope of cover, it’s more like a set of stairs, so that there is always a sufficient level to fund IHT if needed.

If you’ve sought tax advice and plan to make a potentially exempt transfer, or a chargeable lifetime transfer where taper relief applies, this can be a very useful type of policy.

How can a business protection advisor help? Is there anything else you’d like to add?

You don’t specifically need a business protection advisor in this space – because your wealth may not have been created by a business. You could have inherited the money or won the lottery.

However, a lot of the business owners we meet do have this problem, because they’ve been really successful. They’ve often insured themselves for other things, but haven’t stopped to think about the inheritance tax liability for the next generation.

You do need a protection advisor that understands the complex end of this area. Most of the industry deals with life insurance for a mortgage, critical illness cover and income protection, but IHT protection is much more specialist.

You don’t need a business protection advisor specifically, you just need to work with an adviser who understands the technical, trust and tax considerations involved in inheritance tax planning.

Key Takeaways:

• Inheritance Tax (IHT) is currently charged at a rate of 40% on assets that exceed the combined nil rate band, which is up to £1 million for a couple.
• IHT planning should be started as early as possible to take advantage of the seven-year rule for gifts and to benefit from lower premiums on protection policies when you are younger.
• Before purchasing protection policies, you should consult a tax advisor or accountant first, as initial tax planning may mitigate some or all of the IHT liability.
• Whole-of-life cover, particularly a joint second death policy, ensures a guaranteed payout into a Trust outside the estate, giving the next generation access to funds more quickly to pay the 40% IHT bill without having to sell assets.
• Specialised strategies like Rysaffe planning (using multiple Trusts) and Gift inter vivos insurance (mirroring taper relief for gifted assets) can be used to manage complex IHT and gifting scenarios.
  
  

Business protection policies are subject to underwriting, policy definitions, exclusions and insurer terms and conditions. Tax treatment depends on individual circumstances and may change in future. Business Protected does not provide legal or tax advice. For specialist tax advice, please refer to an accountant or tax specialist.