The recent UK Autumn Budget has introduced significant changes to inheritance tax (IHT), reshaping estate planning strategies for individuals with substantial wealth. Among the key changes are the taxation of UK situs assets for non-residents after 10 out of 20 years and the introduction of IHT on pension funds from 2027. These developments have driven a surge in interest in whole-of-life (WOL) and term insurance policies as tools to mitigate potential IHT liabilities.
Why is Inheritance Tax a Growing Concern?
Inheritance tax has long been a concern for high-net-worth individuals (HNWIs) and expatriates with UK assets. Currently, estates exceeding the nil-rate band (£325,000 for individuals, £650,000 for married couples or civil partners) are subject to a 40% tax rate. The residence nil-rate band (RNRB) offers some relief for passing on a main residence to direct descendants, but many estates still face substantial tax liabilities.
The Autumn Budget changes have heightened this concern, particularly for those who previously relied on non-domiciled status to shield foreign assets from UK taxation. With the shift towards a residence-based tax system, individuals who have spent more than 10 out of the last 20 years in the UK will now see their global assets subject to IHT. Additionally, from April 2027, IHT will apply to pension death benefits, further reducing the scope for tax-efficient wealth transfers.
Whole-of-Life Insurance: A Permanent IHT Solution
Whole-of-life (WOL) insurance policies have become an increasingly popular method of IHT mitigation. Unlike term insurance, which only covers a specified period, WOL policies provide a guaranteed payout upon death, ensuring that beneficiaries receive a lump sum to cover any IHT liabilities. As long as the policy is placed into trust. This allows estates to be passed on without the need for beneficiaries to liquidate assets to cover tax bills.
Benefits of WOL Insurance for IHT Mitigation:
- Guaranteed payout: As long as premiums are maintained, the policy will pay out whenever the policyholder dies.
- Liquidity for estate planning: Ensures that beneficiaries have the necessary funds to settle IHT liabilities without selling assets.
- Can be written in trust: Placing the policy in a trust keeps the proceeds outside of the taxable estate, ensuring that the payout is not subject to IHT itself.
- Flexibility in premium payments: Options include fixed premiums or reviewable premiums based on changing circumstances.
Term Life Insurance: A Short-Term IHT Strategy
While WOL policies provide a lifelong solution, term life insurance remains a useful short-term option for individuals who anticipate significant IHT exposure but only for a limited period. Term policies, especially those written to coincide with expected tax liabilities (such as the 7-year taper relief rule for gifts and the new 10 out of 20 residency rule), can help bridge the gap and provide tax-free funds for IHT payments if the policyholder dies within a specific timeframe.
Benefits of Term Insurance for IHT Planning:
- Cost-effective: Typically cheaper than WOL policies, making them ideal for short-term planning.
- Aligns with taper relief: If large gifts are made, a term policy can cover the potential IHT liability within the 7-year rule.
- Aligns with the 10 out of 20 residency rules: Individuals are UK resident but plan to relocate abroad for the long term, can use term insurance to cover potential IHT exposure during this period. Until such a time as their offshore assets fall outside of their estate.
- Can be used for specific obligations: For example, covering IHT liabilities arising from gifting assets or significant property holdings.
Choosing the Right Insurance Policy for IHT Planning
Selecting between WOL and term insurance depends on an individual’s financial situation, estate planning goals, and budget.
For long-term estate planning: WOL policies are preferable as they provide a guaranteed payout for IHT mitigation.
For short-term protection: Term life insurance is suitable for covering IHT liabilities associated with gifting assets within the 7-year window or potential exposure under the 10years out of 20 rule.
For expatriates or globally mobile individuals: Considering recent tax changes, both options should be evaluated carefully in light of residency and domicile rules.
Final thoughts
The UK government’s shift towards a residence-based tax system and the extension of IHT to pensions in 2027 make it crucial for individuals to reassess their estate planning strategies. The rise of WOL and term insurance policies highlights a growing awareness of the need for proactive IHT mitigation. By integrating life insurance into a broader estate planning strategy, individuals can ensure that their wealth is transferred to their beneficiaries efficiently, without unnecessary tax burdens.
For those concerned about the impact of the Autumn Budget changes on their estate, seeking expert financial advice is essential. A tailored approach to Whole of Life or term insurance can help protect assets and provide peace of mind for future generations.
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