No Trust, No Tax Advantage: The Relevant Life Catch

Whether a relevant life policy payout is subject to inheritance tax comes down to one thing, and it is not the policy. It is the trust. Written in trust, as these plans are meant to be, the money is paid straight to your family, outside your estate, and is normally free of inheritance tax. Set the plan up without a valid trust, or with the wrong people named to receive the money, and that advantage collapses — the payout can fall into your estate and be taxed alongside everything else.

This matters because the trust is the reason a relevant life plan exists at all. It is not a nice-to-have bolt-on that you can add later or skip if the paperwork is a nuisance. The whole tax argument for the arrangement — company pays, no benefit-in-kind on the employee, the sum reaches the family without inheritance tax and without waiting for probate — rests on the money being held on trust rather than owned by the person who died.

If you have a plan already, or you are about to arrange one, the single most useful thing you can do is confirm the trust is in place and names the right people. Below is exactly what the trust does, what goes wrong without it, and how to check your own.

The short answer: the trust is the whole tax advantage

A relevant life plan is a death-in-service style policy that a company takes out on the life of an employee or director and pays for. On death before a set age, it pays a lump sum. The appeal is the tax treatment: the premiums are generally not treated as a taxable benefit on the employee, the company may be able to claim them as a business expense, and the payout normally reaches the family free of inheritance tax.

That last point is the one people remember and the one that is most easily lost. The payout avoids inheritance tax because it is written in trust, which means it was never the deceased's money to leave. The trustees hold it and pay it to the beneficiaries at their discretion. Because it never belonged to the person who died, it does not form part of their estate, and inheritance tax is a tax on the estate.

Remove the trust and you remove the reason the money sits outside the estate. That is the entire mechanism. There is no separate rule that keeps a relevant life payout tax-free regardless of how it is held — the trust is not evidence of the advantage, it is the advantage.

What "written in trust" actually does

A trust splits ownership from benefit. When a relevant life plan is written in trust, the policy is held by trustees — usually the company or named individuals — for a class of potential beneficiaries, typically the employee's family and dependants. The employee does not own the policy and has no fixed right to the money. They cannot cash it in or leave it in their will, because it is not theirs.

Three consequences follow, and all three are the point of the exercise:

• It stays out of the estate. Because the deceased never owned the proceeds, the sum is not added to the estate and is not exposed to inheritance tax on death.
• It avoids probate. The trustees can pay out on production of a death certificate, rather than waiting for a grant. Money reaches the family in weeks rather than months, at the exact point they need it.
• It goes where you intended. A discretionary trust lets the trustees direct the money to the right people, guided by a written expression of wishes, without it being fought over as part of the estate.

This is the same machinery that keeps an ordinary personal life policy out of the estate, and the reasoning is set out in full in our explainer on why a life payout can be taxed at 40% and how a trust stops it. A relevant life plan simply applies it to an employer-paid benefit for a director or employee.

What happens if there is no trust

Plans do get set up without a valid trust. Sometimes the trust form is never completed or never returned. Sometimes an ordinary own-life policy is arranged by mistake and called a relevant life plan when it is nothing of the sort. Sometimes the wording is wrong and the trust fails. The result is the same: the tax advantage that was the whole reason for choosing this route is gone.

Without a trust, the proceeds have to be paid somewhere, and the likely destination is the estate. Once the money is in the estate, two things happen. It is added to everything else you own for inheritance tax, which is charged at 40% on the value of an estate above the tax-free threshold, currently £325,000. And it is caught up in probate, so it is frozen at precisely the moment the family is trying to pay bills, cover a funeral or keep a business ticking over.

Source: HM Revenue & Customs and GOV.UK guidance on Inheritance Tax, which sets the standard rate at 40% on the value of an estate above the £325,000 nil-rate band.

The cruel part is that nobody notices the missing trust until the claim is made. The premiums are paid, the plan looks active, and everyone assumes the family is protected in the way the sales conversation described. The gap only shows up when the money is needed and the insurer or the executors discover there is no valid trust to receive it. By then it is too late to fix.

Who the beneficiaries can be — and who they cannot be

A relevant life plan is defined by tax rules, and those rules are strict about who can benefit. The money has to go to individuals — family members or dependants — or to a trust set up for them. It can also go to a charity. That is the whole permitted list.

What you cannot do is point the proceeds at the business. Naming the company as beneficiary, or arranging the plan so the payout funds the purchase of the deceased's shares, takes the arrangement outside the definition of a relevant life plan altogether. That is a different kind of cover with different tax treatment. If your intention is to give surviving owners the money to buy out a departed colleague's stake, that is shareholder or partnership protection, and the funding question behind it is a separate problem we look at in the context of a single-owner company where one death leaves nobody able to act.

Getting the beneficiaries wrong does not just cost a little efficiency. It can break the structure so completely that the friendly tax treatment — no benefit-in-kind, the expected inheritance tax position — no longer applies. The plan then behaves like something you never meant to buy.

Relevant life is not the only thing a trust rescues

The trust-versus-no-trust divide runs through almost everything that pays a lump sum on death, and relevant life cover is only one example of it. It is worth understanding the pattern, because the same trap catches people with entirely different products.

Pensions are the mirror image, and a warning against assuming a trust is always the answer: putting a pension into a trust is usually the wrong move, for reasons we set out in why a pension in a trust usually makes the tax worse. Terminal illness benefits raise their own timing question, because a payout made while someone is still alive is treated differently from one made after death — the detail is in our note on terminal illness payouts and inheritance tax. The common thread is that who legally owns the money at the moment it is paid decides whether it is taxed, and a trust is the usual way of making sure the answer is "not the estate".

How to check your own plan today

You do not need an adviser to establish whether your plan is on the right footing. You need three answers, and the provider has all of them.

1. Is the plan written in trust? Ask the provider to confirm in writing that a valid trust is in place and dated from outset. Keep the reply.
2. Who are the beneficiaries? Confirm they are individuals or a trust for your family, not the company. If you have moved house, married, divorced or had children since the plan started, check the expression of wishes still reflects what you want.
3. Who are the trustees? Make sure at least one trustee other than the person insured is named and contactable, so someone can actually act when the time comes.

If the answer to the first question is uncertain, treat it as urgent. A trust that can be corrected while everyone is alive and well is a piece of admin. A trust that is discovered to be missing after a death is a tax bill and a delay. If you run the company and this is one of several things you have been meaning to sort out, our checklist of what a sole director should change this week puts it alongside the other jobs that only you can do.

If you are reading this because you have realised there is no cover in place at all, rather than a paperwork gap on cover you already hold, you can compare life insurance quotes and have an FCA-authorised broker set the plan up in trust from the start, so the question this article answers never becomes a problem for your family.

Scotland and Northern Ireland

Inheritance tax is a UK-wide tax, so the core point holds wherever you live: a relevant life payout written in trust is normally outside the estate, and one that falls into the estate is taxed the same way across the United Kingdom. The tax outcome does not change at the border.

What differs is trust law itself. Scotland has its own body of trust law, distinct from the law of England and Wales, and the way trustees are appointed and act follows Scottish rules. Northern Ireland again has its own arrangements for administering estates and trusts. None of this alters whether the payout is taxed — that is driven by the trust existing and being valid, not by which nation's law governs it — but it does mean the provider's trust form and the choice of trustees should be right for the jurisdiction you are in. If you are in any doubt about a plan set up in one part of the UK while you live in another, ask the provider to confirm the trust is valid where you are.

Frequently asked questions

Is a relevant life payout subject to inheritance tax?

Written under the intended trust and paid to the beneficiaries, the proceeds are normally outside the deceased's estate for inheritance tax, so no charge arises on the payout itself. Without a valid trust, or with the wrong beneficiaries named, the money can end up in the estate and be taxed at the usual rate along with everything else. The trust is what makes the difference, which is why it is worth confirming rather than assuming.

Who should the beneficiaries be?

Individuals who are family members or dependants, or a trust for them, because that is what the tax rules behind these plans require. A charity is also permitted. Naming the company, or arranging for the proceeds to fund a share purchase, breaks the structure and the tax treatment that goes with it, turning the plan into a different kind of cover you may not have intended to buy.

Can a trust be added after the plan starts?

The trust is normally put in place at outset, using the provider's own form, and that is by far the safest way to do it. Adding or correcting one later is sometimes possible but not guaranteed, and any period during which there was no valid trust leaves the intended treatment in doubt. Ask the provider in writing whether a trust is in place and, if not, whether one can be added, and keep the reply.