How to ensure an estate is set up properly

A crucial step for the adviser to take while the client is still alive is to ensure that the will is up to date. Dying without a will or with one that is out of date can cause enormous problems to those left behind.  

Another consideration, especially for married people, might be to move bank accounts or other assets into joint ownership so the survivor receives them automatically instead of waiting.

An important part of IHT planning, according to Martin Stanley, chartered financial planner at Rowley Turton, can be life assurance plans designed to meet the bill.  

However it is important they are set up in the right way.

Stanley says: “If the payout goes into the estate of the deceased person themself, then that just represents more money to be taxed. Instead, typically, life assurance plans are set to pay into a trust, which being outside of the deceased’s estate is free of tax itself and the proceeds are available straight away.”

A common problem is that the normally used whole-of-life plans are often subject to steeper premium increases over time.Martin Stanley, Rowley Turton

But Stanley cautions that there are some pitfalls with using life assurance for IHT. 

“For one thing, it’s easy for the amount of cover to fall behind the sum needed – indexed plans are available, though uncommon.  

“Another very common problem is that the normally used whole-of-life plans are often subject to steeper and steeper premium increases over time – sometimes, so much so that they become unaffordable and end up surrendered before they ever have a chance to pay out.   

"Guaranteed premium plans are available, but are much more expensive. Advisers and clients should consider this very carefully, well in advance, to give the best chance of their planning being successful." 

Estate value and IHT

Another key step an adviser should take when trying to ready the estate for the inevitable is to determine if the value of the estate is significant and is likely to lead to IHT thanks to a chargeable estate on death after deducting allowable debts, reliefs, exemptions and nil rate bands.

In the will, for example, what does it say about who is to inherit the estate?

According to Ian Smart, product architect at Royal London, this can affect how much IHT is payable.  

He says: “If they don’t have a will, they should be advised to write one. You also need to consider the value of their estate and whether any exemptions are available. 

“For example, if they are married or in a civil partnership and leaving everything to their spouse or civil partner, there is no liability on first death, but a liability could arise on the second death and appropriate cover should be considered to provide funds to pay the liability. 

“Have they made any gifts that don’t benefit from an exemption and would give rise to a tax liability if they died? If yes, then is cover already in place and is it in trust for the right person? If no, consider getting cover in place and putting existing cover in trust.”

Once this calculation has been done then it can underpin IHT planning discussions between client and adviser.  

Trust solutions

According to Graeme Robb, senior technical manager at M&G Wealth, a popular IHT planning exercise is a bond in trust solution from an insurance company where the trust deed can typically be supplied free of charge. 

The correct trust to use will depend on the client’s need to access the trust fund and desired flexibility. 

Robb adds: “For example, does the client need regular withdrawals from the trust? If not, is access to original capital needed? Again, if not, can the client give up access to all capital? Also should an absolute or a discretionary trust be used? 

“Rather than lump sum trust planning, perhaps the client’s attitude to risk suits a business property relief solution which doesn’t involve gifting but investment in and retention of unquoted trading company shares.

“Perhaps the client has excess income out of which regular gifts can be made, leaving the client with enough income to maintain their normal standard of income. Where these conditions are met, those gifts can be immediately exempt from IHT.” 

The adviser should review the cover on a regular basis so that it remains appropriate.Ian Smart, Royal London

When putting cover in trust it is also important to help clients choose appropriate trustees; someone who is likely to outlive them and will stay in touch.  

Their role should also be explained to them so they understand what is expected of them and when they will need to act. 

Smart says: “The adviser should also consider and explain the tax treatment of the trust itself and what this means in terms of what the trustees may need to do when dealing with the trust in future. 

“The adviser should also review the cover on a regular basis so that it remains appropriate. They should also remind the client of the trust and check whether any amendment to beneficiaries or trustees is needed so that it is carried out at the right time rather than waiting for a claim.”

It might be expected that a life policy immediately before death owned by the deceased could have a low or insignificant value, but Robb says changes in value caused by death must be taken into account. 

In other words, those life policy proceeds will form part of the estate. 

“That’s clearly inefficient from a tax perspective where that policy has been taken out to help fund the IHT liability,” Robb adds.

“The simple solution is to ensure that life policy is written in trust so that the proceeds are paid into the trust and not into the estate.” 

This can save up to 40 per cent of the policy proceeds.

Robb explains, typically, a discretionary trust will be used. Ideally the policy will be placed in trust from outset, but it can be settled at a later date. The value of the gift for IHT purposes will need to be ascertained. 

It is important to regularly review nominations to keep pace with clients’ changing circumstances.Gareth Davies, Scottish Widows,

An added advantage is that providing there is a surviving trustee, then the proceeds can be accessible quickly without the need for probate. 

If the policy only pays out on death, then the trust deed will exclude the settlor from benefitting.

Robb says: “If the policy is life or critical illness, then check if the provider offers a ‘split’ trust where critical illness proceeds can be for the benefit of the client but proceeds on death paid tax free for the beneficiaries of the trust. 

Shaun Moore, tax and financial planning expert at Quilter, says taking a holistic view of a client’s wealth and financial aspirations is key when looking at how to best mitigate IHT. 

Another option that may be available is for a client to direct who should receive their fund, allowing them complete control and removing the trustee discretion, but this means that the value of the pension death benefits will normally be counted as part of the member’s estate for IHT on their death.

Gareth Davies, pensions specialist at Scottish Widows, says: "It is important to regularly review nominations to keep pace with clients’ changing circumstances, and you may wish to consider building this into your regular client reviews. This is particularly important if a client has chosen the option of direction when confirming who should receive their fund."

Balancing gifting and income

While gifting earlier in life than later can play a huge part in reducing IHT liability, this must be balanced against the client having enough wealth to enjoy their retirement and also pay for any unexpected bills such as long-term care needs. 

Therefore, cash flow modelling can be a good way of illustrating to a client just how much they can afford to gift without jeopardising their own financial wellbeing. 

Moore adds: “While fairly common knowledge, it is always worth remembering that a gift over £3,000 will only be considered outside of their estate for IHT purposes if the person making the gift lives for seven years after the gift is given.

“However, if there are reservations about gifting to family members, whether that’s because they do not trust them to spend it wisely or they are concerned about losing control of the asset, then there are other routes advisers can help their clients traverse.”

For example, although life insurance does not reduce the IHT liability, it can provide the funds to meet the cost of it. 

Therefore, family members can use the policy proceeds to meet the liability upon death. 

Moore says another tax-efficient tool to potentially reduce IHT liability is pensions.

Saving into pensions can be a tax-efficient way to accrue wealth while also improving the IHT-efficiency of the estate. 

Generally, defined contribution pension plans are not included as part of an individual’s estate for IHT purposes.

Ima Jackson-Obot is deputy features editor at FTAdviser