Life insurance pays out a cash lump sum to your loved ones if you pass away during the term of your policy. In other words, the policy is arranged to make sure that those you hold dear are taken care of financially, should the worst happen. Most people protect their debts or a multiple of salary, to offer financial security to their families.
Kayleigh Madden, our Life Insurance specialist based in Hitchin, answers questions about life insurance trusts and how they can affect your family.
There are three types of life insurance which all pay out in slightly different ways:
- Term Life Insurance
- Whole-of-life Insurance
- Family Income Benefit Insurance
Is life insurance taxable?
This money is not subject to income tax, so in most cases, your family will receive the money in its entirety. However, if you fail to set up your policy correctly, your family could lose as much as 40% of it by means of inheritance tax. If your family gain a large life insurance pay out on top of inheriting your other assets in your 'estate', there's a risk they could end up paying inheritance tax on some or all of it at 40%. We would advise you obtain tax advice from a professional such as tax specialist or an accountant.
For example, a £100,000 insurance pay out would amount to just £60,000 for your family if inheritance tax applied, that’s £40,000 going to the taxman.
What is a trust?
A trust is a legal arrangement, where the trustee takes legal ownership of certain assets. Your assets are what makes up your estate, such as property, contents, pensions and of course life insurance policies!
You appoint a trustee or trustees to oversee the trust. These could be family members, friends or perhaps a solicitor.
The job of the trustees is to ensure that the assets contained within the trust go to the named beneficiaries, as they have beneficial ownership. In other words, the money goes where it is supposed to, rather than into the hands of the taxman or the wrong hands against your wishes. It means that should you die, the insurance policy will be handled separately to your actual estate, and so won’t be subject to inheritance tax if your estate is valued above the tax threshold. Think of it as your life cover proceeds are protected by a bubble, so the taxman can’t get in.
The named beneficiaries would potentially be your partner or your children - the people you want to benefit from the life insurance pay out.
The most common trust used within Life Insurance is a discretionary trust which gives the trustee the responsibility to decide how much the beneficiaries get and how frequently they get the money, as well as any other conditions you put on it such as when they can receive the money. However, there are other types of trusts within life insurance, such as gift trusts and split trusts. What you use will depend on the types of life insurance products you hold and what you want to use the trust for.
Why is writing Life Insurance in to trust so important?
For most people, the real benefit of writing life insurance into trust means that your family will not need to go through the probate process to obtain these funds - probate is where your estate is divided up according to your wishes - to receive the insurance money. This is the entire process of administering a dead person's estate.
Probate can be a lengthy process which can typically take between 6-12 months, so having the policy written in trust cuts out delays and ensures your family receive the money quicker. This will ensure that the purpose of having this replacement of income or even to cover your funeral costs will happen at the right time, allowing your family to have financial peace of mind at what would already be a stressful and emotional time.
Can you change your life insurance policy once it has been written into a trust?
Yes, in fact we encourage our local clients in Hitchin and Stevenage to review their policies to at least every few years. This will ensure that the policy meets their circumstances and will serve the main purpose for what it needs to do. For example, a policy could pay off your mortgage or provide a lump sum to replace income in the event of your death.
We will replace or review your policy if your circumstances have changed, such as:
- You now have children
- Your annual salary has increased
- You have changed occupation
The new policy will provide a better quality plan that you can rest assured gives you peace of mind and still remains affordable for you. From experience we tend to find these policies improve over time, as providers like to offer new features and benefits to help along with the pay out. This could be the addition of bereavement services, for example.
Who should I choose as my Trustees on my life insurance policy?
I would recommend appointing 3-4 Trustees who are in a similar situation to yourself and can tick off these 5 points:
Age: Your Trustee should be a similar age to yourself to ensure they will be around for as long as the term of your policy.
Financial Situation: Your Trustees should be financially stable and competent to ensure that they are comfortable being responsible and handling sizeable sums of money. I would also recommend picking someone with similar living circumstances, to ensure they have a greater understanding of your personal circumstances.
Location: Your Trustees should be ideally local to you to ensure they are easily contactable.
Mindset: Your Trustees should be responsible and of course as the role states that you can trust them. They must also understand what the role entails.
Health: Your Trustees must also be in good health to ensure they are fit and healthy to manage your proceeds for as long as the term of the policy.
Should I write my life insurance policy in trust?
The short and best answer is yes. Writing your policy in trust puts you in the driving seat, which as the policy owner (settlor) is rightfully where you should be!
Not only does it ensure that there are no tax implications, but it will also provide you with the confidence that it will cover your outstanding debts that your lump sum is tailored to cover, e.g. mortgage, credit cards or loans, or replacement income.
Please get in touch if you are:
- Unsure if putting your policy into trust is right for you
- You are not sure if your current policy has been written into a Trust
- You have not reviewed your policies for 12 months
- You are completely new to the world of Life Insurance
As a Life Insurance Trust specialist in Hitchin, Hertfordshire, I would love to help.
Kayleigh Madden
Protection, Wills & Trust specialist, Fortune Financial, Hitchin, Hertfordshire
kayleigh@fortunefinancial.co.uk – 01462 510400
