• years one to three: 100 per cent = £40,000
• years three to four: 80 per cent = £32,000
• years four to five: 60 per cent = £24,000
• years five to six: 40 per cent = £16,000
• years six to seven: 20 per cent = £8,000

To cover this potential liability, a gift inter vivos policy with an initial sum assured of £40,000 could be used. The amount of cover will fall in line with taper relief until seven years when the policy will cease. 

As the IHT liability for this gift would fall on to the son, he has insurable interest and could take out the policy. Alternatively, Singh could take out the policy under a suitable trust, usually a bare or discretionary trust. 

In either case, Singh can pay the premiums and they are likely to be exempt under the gifts from normal expenditure rules or annual gift exemption.

The residual estate – guaranteed whole-of-life policy

The residual estate is £1,425,000. The gifts fall outside of the estate after seven years, at which point the full nil-rate band will be restored and the estimated liability will be £1,425,000 less £325,000 = £1,100,000 x 40 per cent = £440,000. 

If the residence nil-rate band was available from Singh and was transferable from Mrs Singh, it could reduce the tax liability by £100,000 (£250,000 x 40 per cent).

A whole-of-life policy can be used to cover the potential liability. A unit-linked, whole-of-life policy could be used, but for many of these policies the sum assured is reviewed after five or 10 years and the premium may increase substantially at that point. 

A guaranteed whole-of-life policy is likely to be more expensive at the outset, but it is the most suitable policy for IHT planning purposes as the required sum assured will always be available for Singh’s beneficiaries to pay the IHT due. 

The whole-of-life policy should be written under a suitable trust, usually a bare or discretionary trust, so that it does not form part of Singh’s estate on his death.

Singh pays the premiums, and again may be exempt from IHT under the gifts from normal expenditure rules or annual gifts exemption.

Summary

There is little doubt that IHT planning can be complex, and as can be seen from the case study, it is important that any planning is executed in the most tax-efficient manner. 

It would be easy to take out a whole-of-life policy for the full amount of potential IHT due, but taking out the correct combination of policies for a client will provide tailor-made cover of the correct amount at the cheapest cost to the client. 

Richard Cooper is business development manager at The London Institute of Banking & Finance