Putting your life insurance in trust

If you write a life insurance policy in trust, it means you could protect your loved ones from paying a big tax bill on the money they receive from a life insurance policy if you die, plus they wouldn’t have to wait for probate to receive the payout.

When you take out life insurance, you do so never wanting to actually claim on the policy. It is designed to help your dependents financially and to ease their stress if you die. However, in some cases if you have a large estate there could be a 40% tax bill on the life insurance payout. Putting a policy in trust is a legal agreement which can avoid this and ensure the money goes to your dependents rather than to the taxman.

What is a life insurance policy written in “trust”?

Life insurance policies pay out a lump sum of money if the person who took it out dies within the term of the policy. The money goes to their named beneficiaries to help with financial costs, such as paying towards a mortgage.

If you put a life insurance policy in trust, this means you technically don’t own any money that is paid out if you die. As it’s no longer your money, it doesn’t count towards your estate when you die and therefore isn’t liable to inheritance tax.

However, if you don’t put it in trust, the money could be taxed at 40% if it takes your estate over the limit allowed for inheritance.

How does life insurance written in trust work?

You can put a life insurance policy in trust at any point, but it’s most straightforward if you do it when you take it out. When you do so you’ll need to contact your insurer, or a solicitor, and they can write up the legal documents and set up the process to allow you to do this.

When you put a policy in trust you’ll need to appoint a trustee or trustees who will then be in charge of the money. You will agree with them who the money should go to, such as children, and these people are called the beneficiaries of the trust. You will need to confirm you are happy with them taking on this role and everyone involved will sign documents agreeing to this.

Your insurer, or solicitor, will let you know the terms of putting the policy in trust before you sign on the dotted line.

What are the main types of life insurance trust?

If you’re putting a life insurance policy in trust, you can choose from the following types of trust.

Absolute trusts – These are fixed trusts and anything you decide upon when you put the policy into trust, such as the beneficiaries, generally can’t be changed at a later date. This could mean that children born at a later date will be excluded or current spouses will remain beneficiaries even if the couple divorce.

Discretionary trusts – If you’re not sure who you want the money in a policy to go to, or you think it might change at some point, a discretionary trust gives a little more flexibility to change this after the policy is put into trust. It gives the trustees a high level of discretion to make changes if they need to, although they also need to stick to your wishes.

Why should I consider getting a life insurance policy in trust?

The main reason you might consider putting a life insurance policy in trust is to avoid your family being left with an inheritance tax bill. However, those left behind won’t always have to pay this tax. In fact, it only kicks in if the value of your estate is large enough that it goes above the government’s threshold.

The inheritance tax threshold for the year 2020-2021 is £325,000 per person. If you die and are married or have a civil partner, your share will also go to them so their limit will double, to potentially £650,000.

Therefore if your estate doesn’t come close to this, with the money from a life insurance payout included, there may not be any reason to put the policy in trust. However, if the payout would push you over this limit, there would be a 40% tax applied to it and therefore putting the policy in trust could help.

It’s also worth noting that in some cases inheritance tax may still need to be paid on a life insurance payout, even if the policy has been written in trust.

This can occur if changes are made to a beneficiary of a life insurance policy within seven years of a person dying. If a change is made and the new beneficiary is not a spouse or civil partner of the person with the policy, tax may be applied to the payout. You should be given this information when you set the policy up, and before any changes are made.

Another reason to put the policy in trust is so you can be certain of where the money will go. This is important if, for example, you aren’t married, don’t have a civil partnership, or don’t have a will but would like the money to go to your partner.

What are the pros and cons of putting a life insurance policy in trust?

There are lots of things to think about when putting a policy into trust. If you have a more complicated situation, such as a high-value estate and several beneficiaries, you might want to seek specialist advice – although you’ll usually have to pay for this. Here we’ve outlined the main pros and cons.

What are the steps to putting my life insurance in trust?

You will need to contact your insurance provider if you’d like to talk about putting your policy into trust. It should be able to do this for you automatically, and with no extra cost. While the process will depend upon what kind of trust you’re setting up, the following steps are a rough guide to what will happen.

1. Contact your provider to ask about putting the policy in trust.
2. Decide upon the trustee or trustees and the beneficiaries of the trust.
3. Both you and the trustee, or trustees, will need to read and sign “trust deeds” which state the details of the trust.

Who can be a life insurance policy trustee?

You can choose the trustee of the policy and this needs to be a friend or family member who you trust with the responsibility of looking after the policy payout. You can also choose a solicitor for this role.

While you can choose anyone, you want someone you completely trust and someone who ideally isn’t going to die before you do.

Bottom line

The decision over whether to put a policy in trust or not will come down to your own personal and financial circumstances. If, for example, you know that when you die your estate including the life insurance payout will be more than the inheritance tax threshold, it could be a wise decision to have the policy written in trust.

On the other hand, if it’s nowhere near the threshold and you are married, have a civil partner or have written in a will where you’d like the money to go, there may be no point in having it written in trust.

Frequently asked questions

• How long does it take to access money and assets from a life policy?

  Once someone dies, if everything goes as planned with the paperwork and there aren’t any complications, money should be paid out by an insurer in up to 30 days. However, this can take longer if there’s a hold-up somewhere along the line, such as missing paperwork or an unclear reason for a death. When you take out a life insurance policy you should be told the timelines and what will happen if it takes longer than planned.

• Can you change your mind about putting a policy in trust?

  Although it’s possible to put life insurance into trust at any point, not just when you buy the policy, it’s harder to take it out of the trust. In fact it’s usually a decision you can’t be reversed because once it’s in trust it becomes the responsibility of your trustees.

• What does it mean to put life insurance in trust?

  When you put a life insurance policy in trust, you are effectively giving away the responsibility over where the payout of money from the policy will go if you die. This is usually your dependents, or those responsible for them if they’re children. They are then responsible for deciding what happens to all of the money, and by doing this you may be able to save 40% of it going to the tax man.

• What's the difference between the beneficiary and the trustee?

  The beneficiary of the life insurance policy is the person who will receive the money and the person, or people, the trust has been set up for. This is most commonly children and the money provided will be for things such as their housing costs or education. The trustee is the person in charge of the trust who can make decisions about where the money goes.