Why More Families Are Paying Inheritance Tax
The inheritance tax nil-rate band has been frozen at £325,000 since 2009 and will remain frozen until at least 2030. The residence nil-rate band adds a further £175,000 for those passing a home to direct descendants, giving a combined threshold of £500,000 per person or £1 million for married couples and civil partners.
While those thresholds sound generous, rising property values across the UK mean that many ordinary families now have estates that breach the limit. HMRC collected a record £7.5 billion in inheritance tax during 2024–25, and the number of estates paying IHT has more than doubled in a decade.
How Life Insurance Helps With IHT
Life insurance does not reduce your inheritance tax liability directly. However, it can provide the funds your family needs to pay any IHT bill without having to sell the family home or other assets. This is particularly valuable when most of an estate’s value is tied up in property.
The key is to write your life insurance policy in trust. When a policy is held in trust, the payout sits outside your taxable estate. This means the full sum assured goes directly to your beneficiaries without being added to the value of your estate for IHT purposes.
What Does “Writing in Trust” Mean?
A trust is a legal arrangement where your life insurance policy is held by nominated trustees on behalf of your chosen beneficiaries. The process is straightforward, usually completed during the application stage, and most UK insurers provide trust forms free of charge.
Benefits of writing your policy in trust include:
- The payout is not counted as part of your estate for inheritance tax
- Your beneficiaries receive the money faster because probate is not required
- You choose exactly who benefits from the policy
- The process is free and takes just a few minutes to set up
Which Type of Life Insurance Is Best for IHT Planning?
For inheritance tax planning, whole of life insurance is the most commonly used product. Unlike term insurance which expires after a set number of years, whole of life cover guarantees a payout whenever you die. This makes it ideal for covering an IHT liability that exists for as long as you own the assets.
Whole of life premiums are higher than term insurance because the insurer knows they will definitely have to pay out. However, for IHT purposes, the guaranteed payout can save your family far more than the total premiums paid.
| Policy Type | Best For | IHT Suitable? |
|---|---|---|
| Whole of Life | Guaranteed payout at any age | Yes – ideal |
| Level Term | Fixed-period cover | Partial – covers a set period only |
| Decreasing Term | Mortgage protection | No – payout reduces over time |
How Much Cover Do You Need?
To calculate how much life insurance you need for IHT purposes, estimate the total value of your estate (property, savings, investments, pensions, and other assets), subtract the available nil-rate bands, and calculate 40% of the remainder. This is the IHT liability your family would face.
For example, a couple with a £1.5 million estate would face an IHT bill of £200,000 (assuming full use of both nil-rate bands totalling £1 million). A whole of life policy for £200,000 written in trust would give their family the exact sum needed to settle the tax bill without selling assets.