Should I Write My Life Insurance Into Trust?

What is a Trust?

A trust is simply a legal arrangement that holds an asset, such as a Life Insurance policy, separately from the rest of your assets for the benefit of at least one other person.

• When a Life Insurance policy is written into trust, the payout is effectively ring-fenced, keeping it outside your estate.
• Keeping Life Insurance in a trust and outside your estate means your beneficiaries typically get access to the money faster, alleviating any financial burdens more quickly.
• There’s usually little to no additional cost to putting Life Insurance into trust and minimal additional paperwork.

If you don’t place your Life Insurance in a trust, it becomes part of your estate when you die for inheritance tax purposes.

As a result, your family might not receive the full benefit of the policy, which could mean they don’t have enough cash to meet obligations such as the mortgage after your death.

With your life cover put in a trust, the payment goes straight to your beneficiaries after your death. This can offer your loved ones immediate cash at hand, which might be required while the remainder of the estate is tied up in probate.

How Do Life Insurance Trusts Work?

A trust is fairly simple to set up, and usually won’t cost anything extra. You can set up a trust either when the policy is first taken out – which is recommended as none of us know what the future holds – or at a later date.

The forms to set up a Life Insurance trust create what’s known as a trust deed, which sets out the terms and conditions that the trust will operate under.

You can only write life cover into trust if you’re the owner of the policy, so if you assigned it to your bank as security against a loan or mortgage it won’t be possible to put it into trust.

Trusts involve three entities:

• The settlor – the policyholder who sets up the trust and puts their life cover into it
• The beneficiaries – the person or people who will get the money from the trust
• The trustees – those looking after the trust and the policy on behalf of the beneficiaries.

There are three main types of Life Insurance trust: fixed Life Insurance trusts, flexible Life Insurance trusts and discretionary Life Insurance trusts.

Fixed Life Insurance Trusts

• Also known as ‘bare trusts‘ or ‘absolute trusts‘
• You name the beneficiaries from the start
• You decide how the benefit should be split between them
• These decisions can’t be altered at a later date.

Flexible Life Insurance Trusts

• Also known as ‘power of appointment trusts‘
• You still name the beneficiaries you want to receive the cash – known as the default beneficiaries – and how you the cash to be split if you died now
• However, you can also name potential beneficiaries you’d perhaps like the money to go to later down the line (e.g. future grandchildren)
• The trustees have to power to amend the list of default beneficiaries accordingly
• The trustees can also decide to change the split of the benefit between your default and potential beneficiaries as they see fit to meet your wishes
• This is useful if you think your circumstances might change in the future.

Discretionary Life Insurance Trusts

• These are the most flexible type of trust as there are no default beneficiaries
• Instead, the settlor offers a list of potential beneficiaries and gives the trustees total discretion as to who will get the proceeds and how much they’ll get
• A discretionary trust can also allow the addition of potential beneficiaries in the future
• However, the settlor has no real control over who gets their life insurance benefit – it’s all down to the trustees
• Settlors can send a ‘letter of wishes’ detailing how they’d ideally like their benefit to be split, but there’s no legal obligation for the trustees to follow this.

Why Should I Write My Life Insurance Into Trust?

You don’t have to put your life cover into a trust, but there are numerous benefits to doing so. A trust generally offers greater control over the payout, increased tax-efficiency and allows you to use the policy for estate planning.

Life Insurance Trusts Give You More Control

When you write your Life Insurance into trust, you can get more control over the payout than would be available if the money simply went into your estate and then to your beneficiaries from there.

For instance, you could dictate that the money in the trust must be used by your children to pay for their education, will only be released once they reach a certain age (e.g. 25), or at a particular life event, such as a wedding or when they purchase their first home.

Life Insurance Trusts for Policies with Critical Illness / Terminal Illness Benefit

When it comes to Life Insurance which includes Critical Illness Cover, although you’re buying one policy you’re essentially paying for two separate products: Life Insurance and Critical Illness Cover.

In this instance, most people choose to set up a Life Insurance trust that will receive the life element of the policy should they die, but arrange to have the Critical Illness element paid to them directly should that aspect of the policy be triggered.

Life Insurance with terminal illness cover is similar. You set up a Life Insurance trust to receive the Life Insurance payout should you die, but elect to have the benefit paid directly to you if you’re diagnosed as terminally ill.

Does Joint Life Insurance Need to Be Written Into Trust?

In theory, when covering a married couple it may be less necessary to write Joint Life Insurance into trust. That’s because couples’ Life Insurance usually pays out to the surviving spouse / civil partner on the first partner’s death, which is regarded as a transfer of assets between spouses and is therefore exempt from inheritance tax.

Of course, an issue could arise where the couple aren’t married, in which case there’s no inheritance tax protection on the transfer.

While the second spouse can take out a new single life policy after the death of their partner, at that point they’ll be older and perhaps in poorer health, making it more expensive.

With Joint Life Insurance, another issue may be in the tragic event that both policyholders die at the same time. This would mean your benefit is instead paid to someone else without the spousal IHT exemption, so may be subject to inheritance tax.

Also, some people have joint life second death life insurance, which pays out only when both halves of the couple have died. Again this would attract an inheritance tax bill, as the assets wouldn’t be transferred between spouses but straight to the beneficiaries.

Advantages and Disadvantages of Life Insurance Trusts

Advantages

• Writing your Life Insurance into trust avoids inheritance tax
• Using a Life Insurance trust also avoids probate, giving your loved ones access to the cash faster
• A Life Insurance trust gives you more control over how the money can be spent
• With the benefit from your Life Insurance policy in a trust and outside your estate, it won’t be swallowed up by creditors after your death.

Disadvantages

• If you change your mind, it may be difficult to take your Life Insurance out of trust
• It can be difficult to make changes to certain trusts if your circumstances change
• Certain trusts may give trustees more discretion than you would prefer to divide the money after you’re gone.

Expert Advice on Life Insurance Trusts

At Drewberry, we provide holistic insurance advice.

That means we don’t just specialise in offering Life Insurance – all of our experts are also trained to recognise where a Life Insurance trust may be appropriate and discuss this with you, then going on to help you write the policy into trust if necessary.

Why Speak to Us…

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