Nine out of ten policy buyers don’t use a trust that could avoid a huge tax bill

WORRIES about how loved ones will cope if a breadwinner dies mean many people take out life insurance that guarantees a tax-free lump sum on death.

But The Mail on Sunday has learnt that as many as nine out of ten policy buyers fail to take simple steps to stop these plans being derailed by a potential 40 per cent tax bill. The trap can be avoided by completing a legal document called a ‘trust deed’ soon after purchase.

Inheritance tax is charged at 40 per cent on any of a deceased person’s estate valued above £325,000 (or £650,000 if they were married or widowed).

If the policy is not put in a trust, any windfall is added to any worldly goods left behind – and can land beneficiaries with a bill.

A trust deed can be downloaded from your insurer’s website. This removes any payout from the estate – so there should be no death tax to pay. Another advantage is the money is available as soon as the insurance claim is paid – not left to languish while the estate goes through probate, which can take months.

This is vital if a family needs the cash to meet bills such as funeral costs. It could also help meet the controversial new stealth tax on probate revealed last week – where the cost for securing legal control over an estate rises next year from the current flat fee of £215 to up to £6,000 on large estates.

Tom Baigrie, of insurance broker LifeSearch, says: ‘Putting the policy in trust sounds more complicated than it actually is. You just need to decide who should receive the money and then fill out a single form. But sadly many never quite get around to doing it.’

People can be deterred because trust documents can only be organised once someone has purchased their insurance. Another hurdle is making the correct choice of trust. An ‘absolute’ trust suits most people who want to leave the money to a spouse or children. But once set up, the trust cannot be altered. A ‘discretionary’ trust is more flexible and beneficiaries can be added later.

It is not too late for a living policyholder to put their policy in trust. A trust deed can be completed at any time and sent to the insurer.

Angela Murfitt, of financial planner Fairstone Financial Management, says forms are available on most insurers’ websites. She says: ‘The insurer will not take any responsibility for the effect of using these trust deeds –- and will add the caveat that they should seek legal advice.’

Policyholders preferring legal help can get tailored documentation from around £250 from specialist trust firms. Find one at unbiased.org.uk or step.org.uk.