Life insurance in trust

What does it mean to put life insurance in trust?

Putting life insurance in trust means placing the policy into a legal arrangement called a trust, where ownership of an asset is transferred to trustees. Generally speaking, this could be money, investments, property or land. In this instance, the asset is your life insurance policy.

So the policy doesn’t belong to you, but rather the trustees you appoint. They then manage the payout on behalf of your chosen beneficiaries.

There are three main parties involved:

• Settlor – you, the person setting up the trust
• Trustees – the people responsible for managing the payout
• Beneficiaries – the people who will receive the money

The trust is usually set up when you take out the policy, although it can also usually be added later. To do this, you need to speak to your life insurance provider.

What are the main benefits of writing life insurance in trust?

There are several potential advantages:

It can help avoid inheritance tax

When you die, your estate will be subject to Inheritance Tax (IHT) if its value exceeds a certain threshold. 

But because the policy no longer belongs to you but forms part of the trust, the payout doesn’t form part of your estate. As such, it’s not subject to IHT – regardless of whether the rest of your estate exceeds the threshold.

We’ll look at this in more detail below.

It can speed up payouts

Life insurance held in trust is more-or-less guaranteed to be paid out more quickly. This is because it bypasses probate, which is the legal right to manage the deceased’s estate.

Getting probate can sometimes be a long, drawn-out process. This can be a large headache at an already difficult time, especially if your family needs to cover things like funeral costs. On the other hand, if your policy isn’t subject to this process, the payout could potentially be made in a matter of days.

You can direct who receives the money

A trust helps make sure the payout goes to the people you intended to benefit. This can be especially useful in certain circumstances, like if:

• You’re an unmarried couple
• You have a complex family structure/relationship
• You don’t have a will

…Or any combination of the above.

Bear in mind that if you set up an absolute trust, this guarantees who gets a stipulated amount. If you set up a discretionary trust, you can guide the trustees with alLetter of wishes – although this isn’t legally binding. Ultimately the trustees decide who receives the money and how much.

This is why it’s important to appoint someone you trust to honour your wishes.

How does putting life insurance in trust avoid inheritance tax?

Inheritance tax (IHT) is charged on the value of your estate when you die. Currently the tax-free threshold is £325,000 per person. 

But if your life insurance policy is written in trust, the payout is treated separately from your estate. As such, it’s exempt from inheritance tax.

This means more of the money could go directly to your loved ones rather than being reduced by tax – to the tune of 40% of everything above the tax-free threshold.

To find out more, read our guide to whether life insurance is taxable.

What are the disadvantages of putting life insurance in trust?

While trusts can offer important benefits, there are some downsides to consider.

It’s usually difficult to reverse

In many cases, once a policy is placed in trust, the decision is largely irreversible.

You lose some control

It’s important to remember that, when the policy is in trust, it no longer belongs to you legally. Trustees usually need to agree to future changes to the policy or trust arrangements.

This is why it’s important to choose trustees carefully. Plus, you should think through your decisions thoroughly before setting everything up.

What are the different types of life insurance trusts?

There are several types of trust, but the two most common options are:

• Absolute trust – The beneficiaries are fixed from the start and usually can’t be changed later
• Discretionary trust – Trustees have more flexibility over how and when the payout is distributed among beneficiaries

The right type will depend on your circumstances and how much flexibility you want. If you’re absolutely set on what you want, an absolute trust could give you more of a guarantee.

Whereas if you want to make allowances for things changing in future, a discretionary trust gives more flexibility.

How to put your life insurance policy in trust

Setting up a trust is often simpler than people expect. In the case of life insurance policies, your provider can usually walk you through the process. Here’s how to do it:

Step 1: Request a trust form

Your insurer will usually provide a trust deed or form. You can do this when taking out the policy or usually at a later date – although check with your provider to be sure.

Step 2: Choose your trustees

You’ll normally need at least two trustees. These should be people you trust to manage the payout responsibly. It’s also a good idea to pick people who can reach an accord between themselves.

Step 3: Name your beneficiaries

Decide who you want the payout to go to.

Step 4: Sign the trust deed

All parties will need to sign the paperwork.

Step 5: Return the documents

Send the completed forms back to your insurer so the trust can be registered.

Who are the trustees and beneficiaries of a life insurance trust?

Trustees

Trustees are responsible for managing the payout according to the trust rules.

People often choose:

• A partner
• Family members
• Close friends
• A solicitor or professional adviser

Beneficiaries

Beneficiaries are the people who will receive the money from the policy.

This could include:

• Your spouse or partner
• Children
• Other family members

Does putting the policy in trust cost extra?

Usually not.

Most insurers provide the trust paperwork free of charge when you take out a life insurance policy.

That said, it might be worth seeking legal or financial advice if your situation is more complex. You can also transfer some existing life insurance policies into trust, but in these cases you should also seek independent advice.

It’s worth noting that you shouldn’t only put life insurance in trust to avoid tax. In certain situations, it can look suspicious to HMRC – especially if the policy existed before you set up the trust.