Part two of a three-part series on UK tax law and life insurance. Part one established the baseline: death benefits are exempt from Income Tax and CGT, but a policy not held in trust falls into the deceased’s estate and is potentially subject to Inheritance Tax at 40%. This piece examines the structural solution — how trusts work, which structures are available, and what the April 2025 legislative changes mean in practice.

THIS SERIES
Part 1 – Are Life Insurance Payouts Tax-Free in the UK?
Part 2 – Writing Life Insurance in Trust (You are here)
Part 3 – Offshore PPLI and the Trust Question: What UK Policyholders Need to Know Beyond the Crown Dependencies

THE FUNDAMENTAL MECHANISM

A trust is a legal arrangement in which the legal ownership of an asset is transferred from one party (the settlor) to another (the trustee), for the benefit of specified persons (the beneficiaries). The trustee holds and manages the asset; the beneficiaries receive the economic benefit.

When a life insurance policy is written into trust at inception — or later transferred into one — the policy is no longer owned by the policyholder in their personal capacity. It is owned by the trustee. This has one decisive consequence for UK IHT purposes: the policy does not form part of the policyholder’s estate on death. The death benefit is paid to the trust, distributed to beneficiaries by the trustees, and never touches the deceased’s estate at all.

The IHT saving is direct: no estate inclusion means no IHT exposure on the policy proceeds, regardless of the size of the payout. This is the same principle that underpins the trust structures offered by offshore PPLI carriers across Luxembourg, Ireland, and other major jurisdictions — examined in Part 3 of this series.

THE LIVING TRUST MODEL: OWNERSHIP TRANSFERS NOW, NOT ON DEATH

When a life policy is written in trust — sometimes referred to as a “living trust” in broader estate planning literature — the transfer of legal ownership to the trustee occurs at the time the trust is established, not at death. The trust is a living structure: it exists and holds the policy during the policyholder’s lifetime.

This is important for two reasons. First, it means the policy is already outside the estate before death occurs — there is no mechanism by which it re-enters the estate on the policyholder’s death, because it was never theirs to leave. Second, it means any IHT analysis of the trust must begin at the point of settlement, not at death. The tax treatment on entry into trust, and the potential for periodic charges during the trust’s life, both depend on decisions made at outset.

TYPES OF TRUST USED FOR LIFE INSURANCE IN THE UK

Absolute (Bare) Trust

The most straightforward structure. Beneficiaries are named at outset and their interests are fixed and irrevocable. The policy proceeds pass to named beneficiaries on the life assured’s death without further trustee discretion. For IHT purposes, the transfer into a bare trust is treated as a Potentially Exempt Transfer (PET) — meaning no immediate IHT charge, but the value transferred could be brought back into the estate if the settlor dies within seven years. For pure term life policies with no surrender value, this is typically a non-issue: the policy has no meaningful value on transfer.

Discretionary Trust

Trustees have ongoing discretion over how and when to distribute proceeds to beneficiaries drawn from a defined class. This provides flexibility — useful where family circumstances may change, where beneficiaries include minors, or where controlled distribution is preferred. The trade-off is that the transfer into a discretionary trust is treated as a Chargeable Lifetime Transfer (CLT), attracting an immediate 20% charge on any value above the available nil-rate band at the time of settlement. For term policies with no surrender value, the deemed transfer value is effectively nil, making this charge irrelevant in practice.

Discretionary trusts also attract potential 10-year anniversary charges and exit charges under the relevant property regime. For whole-of-life and investment-linked policies, these can be material and require ongoing monitoring.

Survivor’s Trust (Joint Life)

Used where two lives are assured under a single policy. The surviving policy owner inherits the policy before any distribution to further beneficiaries — particularly relevant for cohabiting couples who do not benefit from the IHT spouse exemption. If both assured die within a defined window (typically 30 days), proceeds pass directly to beneficiaries.

THE GIFT WITH RESERVATION OF BENEFIT PROBLEM

The most significant trap in any trust arrangement is the Gift with Reservation of Benefit (GROB) rule. Where a settlor purports to give away an asset — including a life policy — but retains a benefit from it, HMRC treats the asset as still within the estate for IHT purposes. The trust wrapper is, in effect, ignored.

In practice, GROB is engaged if:

• The settlor is included in the class of discretionary beneficiaries, or
• The settlor can receive any economic benefit from the policy by any means

Properly structured life insurance trusts exclude the settlor from the beneficial class entirely. This is a drafting requirement, not a technicality — and it is the point at which cheap or template trust deeds most frequently fail. This applies equally to offshore trust deeds offered by PPLI carriers: the quality of the documentation matters as much as the existence of the structure.

WHAT CHANGED IN APRIL 2025

The Finance Act 2025, effective from 6 April 2025, introduced the most significant changes to UK IHT since the domicile rules were last revised. Two changes are directly relevant to life insurance held in trust.

The End of Domicile as the IHT Anchor

Prior to April 2025, a non-UK domiciled individual could settle non-UK assets into an offshore trust before acquiring UK deemed domicile and benefit from excluded property status — shielding those assets from UK IHT indefinitely, even after the settlor became UK-domiciled or deemed-domiciled. This was the structural foundation of the “excluded property trust” for non-doms.

From 6 April 2025, domicile has been replaced by a long-term residence test. An individual is “long-term UK resident” — and therefore within the scope of UK IHT on worldwide assets — if they have been UK tax resident for 10 of the last 20 tax years. For long-term residents, PPLI policies held in offshore trusts are no longer shielded from UK IHT by virtue of the trust’s offshore nature. The trust structure still removes the policy from the estate on death — but the broader excluded property benefit is gone.

The IHT Tail on Departure

Long-term UK residents who leave the UK do not immediately escape UK IHT jurisdiction. The tail period ranges from three to ten years depending on the duration of UK residence. An individual who was UK-resident for 20 years faces a ten-year IHT tail after departure — meaning trust-held life policies remain within the UK IHT net for that period.

Protected Trust Status Abolished

Prior to April 2025, offshore trusts settled by a non-dom before acquiring deemed domicile enjoyed “protected trust” status — insulating trust gains and income from the UK tax charge on the settlor even after the settlor became UK-resident. This protection has been abolished for income and gains arising from April 2025. The implications for existing offshore PPLI trust structures are significant and are addressed in detail in Part 3.

WHAT REMAINS UNCHANGED

For UK-domiciled policyholders, the fundamental mechanics are unaffected. A life insurance policy written into a properly structured trust at inception, with the settlor excluded from the beneficial class, remains outside the estate for IHT purposes. The trust structure does not need to be offshore to achieve this result — the location of the trust is irrelevant to the IHT analysis for UK-domiciled settlors. What matters is that legal ownership genuinely transfers to the trustee, and that the GROB rules are not engaged.

WHY PROBATE MATTERS TOO

The IHT saving is the headline benefit, but the probate bypass is almost as valuable in practice. A properly structured life insurance trust allows trustees to claim proceeds directly from the insurer upon production of the death certificate. Funds can reach beneficiaries in weeks. Without a trust, the policy payout falls into the estate, probate must be obtained — a process that routinely takes six months or longer — and HMRC requires any IHT due to be paid within six months of death, creating a cash flow problem at exactly the moment beneficiaries are least equipped to handle it.

For PPLI policyholders with complex international structures, the probate bypass argument is particularly strong: cross-border probate can take years. Offshore PPLI carriers in Guernsey, the Isle of Man, and Mauritius all offer trust structures that produce precisely this outcome — but the quality of the trust documentation, and the independence of the trustee, vary significantly across jurisdictions and providers.

PART 3: OFFSHORE PPLI AND THE TRUST STRUCTURES BEYOND CROWN DEPENDENCIES

The next piece addresses the specific trust structures offered by offshore PPLI carriers across the principal jurisdictions — Luxembourg, Ireland, Switzerland and Liechtenstein, Singapore, Mauritius, and others — and what UK policyholders should understand about how those structures interact with the UK IHT framework following the April 2025 changes.