Life Insurance can reduce your liabilities.
By: Michael Challiner
It’s an old saying that there are two certainties in life – death and taxes – and there is definitely a ring of truth in this, but the real misfortune is when the two combine. You work hard all your life and manage to put aside a little money to pass on to your heirs, but what happens when you die? The taxman turns up to demand his share, and the way that the inheritance tax rules have been allowed to lag behind inflation ensures that the numbers caught in this trap increase every year.
Currently when you ‘kick the bucket’, ‘cash your chips’ or whatever other colloquialism you use to avoid saying ‘die’, the value of your estate will be of great interest to the Inland Revenue. They will look at the total value of all your cash, investments and possessions, which value they will most generously allow you to reduce by the value of your debts (mortgages, loans etc.). Out of the remainder, your estate will be allowed to retain value up to the threshold figure where taxation starts. Any amount above this figure will be hit by inheritance tax (IHT) at a rate which is currently set at 40%.
However, the threshold figure at which IHT starts has not been increased sufficiently to maintain its value in recent years. At present it is calculated that 10% of households are hit by this tax, but it is expected that this figure will increase to 15% within a short time, and that unless corrective action is taken it will continue to increase.
Since this tax was introduced by the Labour government in 1975, when it was nick-named the ‘Robin Hood tax’ because of the intention to hit the estates of the rich, it has taken an unfortunate change of direction. Rich families can and do employ accountants and solicitors to reduce their liability to IHT, whilst the ‘ordinary’ families who cannot afford to pay for professional services have to pay the tax.
‘Could be worse’ you may be thinking, under the illusion that your estate will never hit the heady levels of six figure values, let alone £300,000 or more. This may be true but have you included the value of your house in your total. You may have bought it 30 years or more ago when it only cost a few thousand, but what is it worth now? You may be shocked to find that its value can absorb most, if not all, of the tax free IHT threshold, leaving any other assets taxed at 40%!
So how can you protect your estate from the Chancellor’s depredations? Presumably your house will be in joint ownership between your spouse and yourself, as are most in the UK; this means that when the first death occurs, the house will pass untaxed to the remaining partner, because there is no taxation on transfers between husband and wife. So what could have been two tax free sums available has effectively wasted one, as only the survivor’s will be used on their death.
To deal with this you need to talk to a solicitor to arrange for ownership of your home to be changed to ‘tenants in common’ so that you both own a half share of the house. This will remove half of its value from each of your estates, although a will becomes essential to provide for ‘disposal’ of either half.
Now, what about the remaining taxable value? How can it be safeguarded? Provided that you have done your calculations accurately (within the limits of having to forecast future movements in values), you will have a figure which should be approximately what the taxman will require from your estate after your death, and before any bequests etc can be dealt with.
This is where life insurance can show its value to your beneficiaries. If you now take out a ‘whole of life’ policy for the calculated sum and have it written ‘in trust’ so that it does not form part of your estate and therefore avoids IHT, it will pay out on your death a sum approximately equal to the IHT liability. Having settled that, your estate should then be available at or close to its actual value for distribution within the terms of your will.
You will need expert help in dealing with the requirements of your will and arranging the life insurance. You have done enough work in calculating your IHT liability, so why not take the easy way out now? Have a browse through the internet pages for a suitable broker and hand the remainder of the job over to him – you will have the satisfaction of knowing that all the details are correct and that there is nothing which is liable to cause problems for your heirs.