What’s the benefit of having my Life Insurance Policy held in Trust?

benefits of life insurance in trust
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Your Life Insurance policy is a valuable asset and unless treated in the right way, it will contribute towards the overall value of your Estate when you die. Putting your Life insurance in to a Trust ensures you can manage the way your loved ones receive their Inheritance.

It is however, really important to use the right Trust to place your Life Insurance Policy into. Here are just two examples of where it can go wrong.

Is a Mortgage Repayment Trust set up after 17th July 2013 still valid?

Anyone who had a Life Insurance Policy assigned to a ‘free’ Life Insurance Provider’s Trust set up to repay their mortgage balance upon their death, and did so after to 17th July 2013 could leave their beneficiaries with a nasty unexpected bill.

Prior to this date, the Life Insurance Policy would have been held outside of the Policy Holders Estate for Inheritance Tax (IHT) purposes, as well as providing additional protection against other threats such as Divorce, Relationship Breakdowns, Re-marriage and Bankruptcy. Upon the Policy Holders death, the policy would pay out of the Policy Holders Estate, from where the Trustees could use the policy proceeds to pay off the outstanding mortgage balance. That mortgage balance was treated as a debt against the Estate which must be repaid and so reducing the total value of the Estate for IHT purposes.

The introduction of the 2013 Finance Act saw a change in the rules that makes the previous approach null and void. This new legislation means that using the Life Insurance payout to settle the mortgage balance ‘directly’ from the trust would not be an allowed debt against the deceased’s Estate and would therefore not reduce the Estate Value for IHT purposes.

It would be so much better to have the Life Policy pay-out to a bespoke Discretionary Trust, with the Trustees of the deceased Estate having access to the Trust to use the funds to repay the mortgage.

The difference? The payment from the bespoke Discretionary Trust is considered to be a Loan and not a Gift payment. Like any Loan, it is considered to be a debt that must be settled prior the Estate’s valuation for Inheritance Taxation, so reducing the Estates value for IHT.

Learn more about Estate Planning and Trusts

Are My Terminal Illness and Critical Illness Life Policies Exempt from Inheritance Tax?

Let’s imagine a recently married couple have purchased their own home with a mortgage, and have taken out a Single Life Policy each, with each policy having both Terminal Illness and Critical Illness cover in them to repay their mortgage balance in the event of either partner’s death.

Just like in our first example, the policies have each been assigned to the ‘free’ Life Insurance Provider’s Trust and have the same issue as the above example. In addition, as these policies include both Terminal Illness and Critical Illness Cover benefits, there is now the risk that the ‘free’ Life Insurance Provider’s Trust could cause an even greater problem for the couple.

This is because lifetime benefits such as Terminal Illness and Critical Illness Cover are often automatically classed as a Retained Benefit of the Settlor (The Couple) and are held on a Bare Trust for them, therefore forming part of their respective Estate values upon payout.

The vast majority of today’s policies include a Terminal Illness Cover benefit, the majority of life insurance provider’s now automatically create a Split Trust for those policies with retained benefits. The Result: these assets are held on Bare Trust and no longer have protection from IHT or the other significant threats such as Divorce, Re-marriage or Bankruptcy.

Seek Specialist Trust Advice before embarking on any Planning

At Redwood, we understand that every Clients needs are unique and we have a range of Trusts which are specifically designed to cater for your circumstances and achieve your aims.

We are pleased to offer a Complimentary 15 Minute Phone or Video Meeting with an Adviser to help you understand the potential options open to you before you start to explore the details, risks and benefits that underpin these option.

Call us on 01489 877 547 to book an appointment, or Request a Call Back from the team here.

Steve Blofield
Steven Blofield
Steven is the Director and Senior Estate Planner at Redwood Financial. He helps clients manage and grow their wealth and protect their estate. You can read more about Steve in his personal biography.
Redwood Financial is one of the south’s leading Investments, Pensions, Wills, Trusts & Estate Planning providers and we are dedicated to helping families to grow, protect and enjoy their wealth. With our unrivalled knowledge of Estate Planning, Lasting Powers of Attorney, Probate, Pensions, Savings & Investments, we can advise on any situation.
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