Are you worried about your family’s financial future? Recent UK Autumn Budget changes have raised concerns for business owners, particularly regarding inheritance tax (IHT). As a business owner, safeguarding your legacy is crucial, and life insurance can be a powerful tool to mitigate IHT. Martin Lindsey, Head of Advice at FBU Partner Brooks Macdonald shares his thoughts.
Key Changes In The Autumn Budget
Inclusion Of Pensions In Inheritance Tax Calculations
Significant changes are coming to how pensions are treated for IHT. Starting in April 2027, most unused pension funds and death benefits will be included in the value of a person’s estate for IHT. Previously, pensions were generally excluded from IHT calculations.
Currently, if someone passes away under the age of 75, their pensions are usually passed on tax-free. If they’re over 75, the beneficiaries pay tax at their marginal rate of income tax. For business owners, this change means that pension savings, which were often used as a tax-efficient way to pass on wealth, will now be subject to IHT. This could significantly impact financial planning strategies, as business owners will need to consider the potential tax liabilities on their pension funds.
One effective strategy to mitigate this impact is through life insurance. By setting up a life insurance policy in trust, business owners can ensure that the payout is used to cover the IHT liability, thereby preserving the value of their estate for their beneficiaries.
Business And Agricultural Property Relief Adjustments
The Autumn Budget 2024 introduced changes to Business Property Relief (BPR) and Agricultural Property Relief (APR). Starting from April 2026, the first £1 million of combined business and agricultural assets will not be subject to IHT, with a 50% relief on assets over £1 million. This cap on business relief means that fewer business assets can be passed on tax-free, necessitating a re-evaluation of estate planning strategies.
Life insurance can play a crucial role here. A policy covering potential IHT liability ensures heirs aren’t burdened with significant tax bills. This approach allows the business to continue operating smoothly without the need to sell off assets to pay taxes.
Planning For Death Taxes And Estates In Probate
Managing estate and tax matters after a loved one’s death can be particularly challenging. Families must pay the tax within six months to avoid a 7.25% late payment charge by HMRC. Probate, the legal right to deal with someone’s property, money, and possessions (their ‘estate’) when they die, typically takes anywhere from half a year to eighteen months. For large estates with property and businesses, this process can take even longer.
Why Life Insurance Is A Smart Move For Your Legacy
Insurance can make things easier for your loved ones and prevent assets from being sold to pay any bills. It’s very important to follow certain steps to ensure you don’t end up with a higher tax bill. Essentially, this comes down to using trusts for your life insurance policies. It can be a strategic way to manage your estate with the aim that your beneficiaries receive the full benefit of the policy without incurring IHT.
How Life Insurance Can Help With IHT Planning
Life insurance can be a valuable tool in IHT planning, providing a means to cover the tax liability without depleting the estate. Here’s how it works:
Policy setup: A life insurance policy is taken out, with the sum assured designed to cover the estimated IHT liability.
Trust arrangement: The policy is written in trust, ensuring that the payout does not form part of the estate and is therefore not subject to IHT.
Payout utilisation: Upon death, the policy pays out to the trust, which then uses the funds to settle the IHT bill.
What Is A Trust?
A trust is a way of managing assets (money, investments, land, or buildings) for people. There are different types of trusts, and they are taxed differently. In the case of a life insurance policy, a trust is a legal arrangement where ownership of an asset is transferred to trustees following the death of the person taking out the life policy. The trustees manage it for the benefit of your chosen beneficiaries, and many insurance providers will do this free of charge.
Benefits Of Using Trusts For Life Insurance
Tax efficiency: The payout from a life insurance policy placed in trust is generally not considered part of your estate, which means it can avoid IHT.
Quicker payouts: Since the policy is not part of the estate, the payout can be made without waiting for probate, providing quicker financial support to your beneficiaries.
Control over distribution: You can specify how and when the beneficiaries receive the payout, which can be particularly useful if the beneficiaries are minors or if you want to stagger the payments.
Types Of Life Insurance Policies
When choosing a whole-of-life policy, care needs to be taken regarding which whole-of-life policy to use, as not all policies are created equal. Opting for a lower premium policy can be a costly mistake. The three main types of life insurance policies used for IHT planning are:
Guaranteed whole-of-life policy: These policies have fixed premiums that do not change over time. They provide certainty as the premiums remain the same throughout the life of the policyholder. This type of policy is ideal for those who prefer predictability in their financial planning. Although these policies are more expensive initially, their premiums are guaranteed to stay the same, even if you live much longer than expected.
Joint life, second death whole-of-life policy: This type of policy is cheaper than a first death policy and is more tax-efficient, as inheritance tax is usually only due on the second death. Spouses can transfer assets between themselves tax-free. However, be aware that some whole-of-life policies only pay out on the second death within a set term, typically up to age 90. Despite being marketed as a way to cover inheritance tax, there’s a high chance that one spouse could live beyond 90, making those premiums potentially wasted.
Reviewable whole-of-life policy: These policies have premiums that are reviewed periodically, typically every 10 years. The premiums may increase based on various factors, including the policyholder’s age and health at the time of review. While these policies often start with lower premiums, they can become more expensive over time, potentially causing the policy to lapse or the sum assured to be reduced.
Example costs for guaranteed whole-of-life policy:
To illustrate the potential costs, here are some example premiums for a whole-of-life insurance policy for a male or female non-smoker business owner:
Total Cover | Age | Single Life Cover: Monthly Premium | Joint Life, Second Death Cover: Monthly Premium |
£1 million | 50 years of age | £891 | £708 |
£1 million | 60 years of age | £1,257 | £959 |
Medical Underwriting
When applying for a life insurance policy, medical underwriting is usually required. This process involves a detailed assessment of the applicant’s health to determine the premium rates. The cost of the policy will depend on the individual’s health status, age, and other risk factors. It is important to note that the initial quotes provided are based on the assumption of good health, and the final premium may vary after the medical assessment.
Benefits And Considerations
Benefits:
Liquidity: Provides immediate funds to pay IHT, preventing the need to sell assets.
Sense of security: Aims to prevent loved ones from being burdened with a hefty tax bill.
Tax efficiency: The payout from a trust-held policy is outside the estate, reducing the overall IHT liability.
Considerations:
Cost: Premiums can be high, especially for older individuals or those with health issues.
Complexity: Setting up a trust and ensuring compliance with tax laws requires professional advice.
Key Takeaway
Given the recent Autumn Budget changes, it is more important than ever for business owners to consider life insurance in their IHT planning.
By doing so, they can help ensure that their legacy is preserved and their loved ones are protected from significant financial burdens. These changes highlight the importance of proactive estate planning, particularly around inheritance tax planning. For those impacted, thoughtful planning and timing will be essential.
Next steps
Ready to help protect your legacy? To explore how life insurance can fit into your inheritance tax planning strategy, it is advisable to consult with a financial adviser. They can provide personalised advice tailored to your specific circumstances and help you navigate the complexities of estate planning. Contact the team at Brooks Macdonald for more information by email t pc@brooksmacdonald.com or visit their website here
Important information
The information in this document does not constitute advice or a recommendation and you should not make any investment decisions on the basis of it. Investors should be aware that the price of investments and the income from them can go down as well as up and that neither is guaranteed. Investors may not get back the amount invested. Past performance is not a reliable indicator of future results. Changes in rates of exchange may have an adverse effect on the value, price or income of an investment.
Brooks Macdonald does not provide tax advice and independent professional advice should be sought. Tax treatment depends on individual circumstances and may be subject to change in the future, so you should seek independent tax advice, as to your own position.
Brooks Macdonald is a trading name of Brooks Macdonald Group plc used by various companies in the Brooks Macdonald group of companies. Brooks Macdonald Group plc is registered in England No 04402058. Registered office: 21 Lombard Street, London EC3V 9AH.
Brooks Macdonald Asset Management Limited is authorised and regulated by the Financial Conduct Authority. Registered in England No 03417519. Registered office: 21 Lombard Street, London EC3V 9AH.
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