The payout itself
When a personal life policy pays out, the people who receive the money do not normally pay income tax or capital gains tax on it. The same applies to most personal critical illness and income protection payouts, which is why income protection benefit is usually described as tax-free.
That is the good news. The question that matters most is where the money lands when you die.
Inheritance tax and your estate
If your policy is not in trust, the payout usually goes to your estate. Your executors add it to everything else you owned, and HMRC uses the total to work out whether inheritance tax is due. A large policy can tip an estate over the tax-free allowances.
Writing the policy in trust usually takes the payout outside your estate. Your trustees then pay it to your chosen beneficiaries, often much faster because they do not need to wait for probate.
Premiums and tax relief
You pay personal life insurance premiums from your taxed income, and you cannot claim tax relief on them. In return, the payout is generally tax-free.
Premiums you pay into a policy held in trust can count as gifts for inheritance tax purposes. Regular gifts paid from surplus income are often exempt, but the rules have conditions, so ask an adviser if this applies to you.
When business cover is taxed differently
Policies paid for by a business follow separate rules. Relevant life cover, key person insurance, shareholder protection and executive income protection each have their own tax treatment. For example, executive income protection benefit is usually paid to the company and then to the employee through payroll, where normal tax applies.
The way a business policy is set up affects whether premiums are an allowable expense and whether the payout is taxed. Your accountant should review the arrangement.
- Relevant life cover for directors and employees
- Key person insurance owned by the company
- Shareholder and partnership protection
- Executive income protection paid via payroll
How Hi Tomorrow helps with the tax side
We explain in plain words how tax is likely to affect the cover you are buying, and we help you set up personal policies in trust when you are accepted. For business cover, we work alongside your accountant so the policy fits how your company is run.
We do not give tax advice, and tax rules change. For a large estate or complex business, speak to a qualified tax adviser before you decide.