How to Reduce Your Inheritance Tax Liability by Putting Life Insurance Policies in Trust

Life insurance is a key component of financial planning, providing peace of mind that your loved ones will be financially supported in the event of your passing. However, many people overlook an important step that can maximise the benefits of a life insurance policy: placing it in a Trust. This article will explore how putting your life insurance in Trust can provide significant advantages for your beneficiaries, from reducing tax liabilities to ensuring a quicker payout.

How Does Putting Life Insurance in Trust Work?

When you place your life insurance policy in a Trust, or “writing life insurance in Trust” means that when the policy pays out, the proceeds are paid to the trust not your estate. This effectively removes the policy from your estate, offering tax, speed, and convenience benefits that can help protect your loved ones.

When you decide to write your life insurance policy in Trust, you must choose the type of Trust that best suits your needs. Once the Trust is established, the Trustees legally own the policy and are responsible for making a claim upon your death. It is essential to ensure that the Trust deed is kept safe, as it will be needed to claim the payout.

Why Put Your Life Insurance in Trust?

There are compelling reasons to put your life insurance in Trust:

Inheritance Tax Efficiency: Life insurance payouts are usually considered part of your estate, which means that Inheritance tax of 40% may be charged on the payout. By placing your policy in Trust, it is removed from your estate, potentially saving your beneficiaries a significant inheritance tax bill.

Control Over Your Assets: Without a Trust, your life insurance payout could be used to settle outstanding debts before your beneficiaries receive anything. A Trust allows you to dictate who gets what and when, providing greater control over your legacy.

Faster Access to Funds: Typically, when you die, your estate goes through probate—a legal process that can take months. If your life insurance policy is in Trust, your beneficiaries can receive the payout within weeks, bypassing the probate process entirely.

Considerations and Potential Downsides

While the advantages of writing life insurance in Trust are clear, there are also some drawbacks to consider:

Irreversibility: Once your life insurance policy is in Trust, you cannot change your mind and remove it. This decision is final, so it is crucial to get proper advice before proceeding.

Loss of Control: When you place your life insurance in Trust, the Trustees gain legal ownership of the policy. Any decisions regarding the policy will require their consent. It is possible to build in powers that enable you to keep some control, ask us for more information about this.

Special Considerations for Cohabiting Couples

If you are living with a partner but are not married or in a civil partnership, placing your life insurance policy in Trust is particularly important. Without legal recognition of your relationship, your partner may not have a legal claim to your estate — or your life insurance — if you die. Also, as your partner will not benefit from Inheritance tax spouse exemption it means that the proceeds will be included for working out the inheritance tax payable. By putting your policy in Trust, you can ensure that your partner and any children you have together are financially protected.

Joint Life Insurance Policies in Trust

For couples with joint life insurance policies, careful thought needs to be given as to whether it is best to put it into trust. It will depend on whether the policy will pay out on the first or second death, whether you are married or in a civil partnership with the other joint owner, and who you wish your estate to pass to on your death or the death of your partner. If the policy pays out in the second death, there are often considerable advantages in putting the policy in trust and often inheritance tax will be saved.

Conclusion

Putting your life insurance policy in Trust is a strategic move that offers significant advantages, including control over your assets, faster payouts to your beneficiaries, and potential tax savings. While there are some downsides, such as the irrevocable nature of the decision, the benefits often outweigh the risks—particularly for cohabiting couples and those with large estates.

Before making this decision consult with our experienced Head of Wills and Trusts, Emily Shearing, to ensure that writing your life insurance into a Trust aligns with your overall estate planning strategy. By calling us on 01273604123 and taking this step, you can provide your loved ones with financial security and peace of mind when they need it most. You can also reach us by email at enquire@bbc-law.co.uk or make an enquiry.