How whole of life insurance can help beat the inheritance tax trap

Whole of life insurance is not new but it is gaining in popularity as a way to ensure your loved ones aren’t caught by the inheritance tax trap.

But what is whole of life insurance, what does it cost and how can it help beneficiaries deal with inheritance tax and other bills after you’re gone?

Here we break down the essentials for this piece of financial protection so you can see whether it could be right for you.

What is whole of life insurance?

Whole of life insurance (also known as WOL or whole-life insurance) is a life insurance policy which provides life-long cover.

Unlike term life insurance or other kinds of life insurance, whole of life insurance does not have an end date.

With limited exceptions (see below), it guarantees a lump sum payment to beneficiaries of the policyholder upon their death.

Types of whole of life cover

WOL policies can be written on a guaranteed, balanced or maximum-cover basis.

Guaranteed

Taking out a guaranteed policy will mean your premiums will never change.

Balanced

If you take out a balanced policy, the sum assured may need to be increased in the future.

Maximum cover

If you take out maximum cover, your premiums will be increased regularly – for example, every five years.

Whole of life plans can be taken out on a single and joint life second death basis, making them ideal for married couples.

Why choose whole of life insurance?

You might want to take out a whole of life insurance policy to ensure your spouse or partner is financially secure when you are no longer around.

A whole of life policy could also be useful to help your loved ones with living expenses or to protect their lifestyle.

An increasingly popular reason for taking out whole of life insurance is to meet potential inheritance tax liabilities.

The Inheritance Tax threshold in the UK

At the current moment in time, if the value of your estate after your death is more than £325,000, it could be liable for inheritance tax.

Even allowing for an additional £175,000 (known as the residence nil-rate band) if you’re passing your main home to children or grandchildren, that still makes a combined total of £500,000.

At a time when over 700,000 homes across Great Britain are worth more than £1 million, many more people are being drawn into the inheritance tax (IHT) net.

In addition, from 6 April 2027 unused defined contribution pension pots will be included when working out the value of your estate.

The combination of these two factors is leading more people to consider whole of life insurance as a way of mitigating their IHT liability.

Using whole of life insurance to pay inheritance tax

On a simple level, after your death, your beneficiaries can use the pay-out from your whole of life plan to pay an IHT tax bill.

Depending on the level of cover you take out, the pay-out could cover the bill in part or in full.

However, it is important to note that while life insurance pay-outs are generally not subject to income tax or capital gains tax, they can be subject to IHT if the pay-out forms part of your estate.

Writing a whole of life policy into a Trust

To avoid this, a whole of life insurance policy can be written into a trust. This means the pay-out goes directly to your beneficiaries rather than becoming part of your estate. This keeps the pay-out outside the scope of IHT and leaves it open to be used to pay any IHT bill.

The other benefit to this strategy is that your loved ones will have fewer financial worries at a time of heightened emotional stress.

What isn’t covered by whole of life insurance?

Not all deaths are covered a whole of life policy by life insurance, such as death resulting from illegal activities, such as drug overdose or criminal activity.

If you have a pre-existing medical condition that you did not disclose when taking out the policy, this could also result in your claim being denied.

In addition, some policies may have exclusions for certain high-risk activities, such as extreme sports or dangerous hobbies.

This is one of the reasons why getting expert advice and reading policy documents carefully is very important.

How much does whole of life cover cost?

Because it offers a guaranteed pay-out, whole of life cover is usually more expensive than other kinds of life insurance.

The exact cost depends on a number of factors including:

• Age
• Health
• Occupation
• Smoker status

As with most life insurance, in general the earlier you take out a whole of life policy, the cheaper the premiums will be.

Key takeaways – is whole of life insurance right for you?

Whole of life insurance can help provide for your family when you are no longer around.

This can help with all kinds of bills, including inheritance tax liabilities, but must be structured and set up correctly.

At Fairstone, we’re providing advice to an increasing number of clients on how WOL cover can help them and their families.

To find out more, get in touch with us today.

Disclaimer: This article is for informational purposes only and does not constitute financial, tax, or legal advice. Tax treatment depends on individual circumstances and may change. Always seek professional advice before making financial decisions.