Client adviser, Chris Yardley looks back on a recent client case where he advised on the use of a life insurance policy to help mitigate inheritance tax liabilities.

The purpose of this case study is demonstrate how life insurance can be used to protect clients who are deemed to be U.K. domiciled for Inheritance Tax (“IHT”) purposes.

Case Study

Our clients (‘Mr and Mrs HNW’) were in their late 40’s, in relatively good health and owning assets worth c. £7m; the majority of these being jointly-owned and based overseas (USA and Australia).

Both had been resident in the U.K. for five years, so under the U.K.’s new domicile rules, had another 10 years of residency before they would be deemed to be U.K. domiciled. So far so good.

However, Mr HNW was born in Oxford, and therefore has a U.K. domicile of origin. Consequently, his worldwide assets have been brought under the scope of U.K IHT.

No planning had yet been put in place, and once account had been taken of nil rate bands and asset situs, their combined U.K. IHT liability was around £1.5m, so the primary reason for taking out a life policy was to protect U.K. IHT.

A secondary reason is that Mr and Mrs HNW’s two children would like to attend American universities, which are costly. And in the event of Mr HNW’s death as the sole breadwinner, this cost could not be afforded without selling assets that are illiquid, based overseas and carrying chargeable gains. Accordingly, the total expected cost to protect future educational expenditure is £300k.

Therefore, the total sum assured required is comprised of two parts: protection for U.K. IHT and protection against the deprivation of the family’s desired lifestyle, i.e. educational costs. The total sum assured is £1.8m.

The clients are formulating their retirement plans and expect to retire to Australia; however, this may change, and so flexibility is required.

The Recommended Policy

We reviewed the market based upon the clients’ requirements and assessed the terms offered by 11 major insurers.

It was decided that a Whole of Life (“WOL”) policy should be established because of the clients’ retirement plans: they will probably retire to Australia and so Mr. HNW would lose his deemed domicile status after six years of non-residency, but they might retire in the U.K. In which case, his worldwide assets will continue to be exposed to U.K. IHT, and hers will be after 15 years of residency.

The joint-life, second-death, policy chosen will cover them if they move permanently to Australia, and whilst set up on a WOL basis, can be cancelled at any time.

According to the terms of the most competitive quotation, the surviving spouse will receive a pay-out for £1.8m in return for annual premiums of £28,320.

The terms are guaranteed for the first ten years. After which, the premiums will rise, to possibly more than double. Premiums guaranteed not to rise while the policy is in force could have been selected, but they are far more expensive at the outset and would not be appropriate for these clients due to their uncertain retirement plans: if they move to Australia, after six years, they are likely to cancel the insurance.

Conclusion

The key points for this case are:

• Life cover can be taken out to protect both U.K. IHT for a person deemed U.K. domiciled and the family’s desired lifestyle in the event of the death
• Policies can be flexible: cover can continue when living overseas and can be cancelled at any time. This flexibility is attractive for clients affected by the new domicile rules
• A policy can be formulated to precisely match the client’s circumstances
• Estate values, costs and circumstances are liable to change; therefore, policies should be reviewed on a regular basis to ensure they continue to match the client’s requirements
• There are many differences between policies and a full assessment should take place rather than simply selecting a policy with the cheapest premiums

The facts noted here are in accordance with current legislation, which may be subject to change.