Many employers provide generous life assurance arrangements for their employees. These schemes typically pay out lump sum death benefits following the death of the member in service. Usually the benefits will be provided under an insurance policy.
It is beneficial for life schemes to be established by a legal trust. This means where death benefits are paid out following a death the cash benefit can be paid outside of the member's estate free of inheritance tax.
These schemes can be treated as tax registered schemes with HM Revenue & Customs, or non-registered schemes (also called expected schemes) where the underlying benefits will not count towards the member's lifetime allowance (which is his UK tax limit on tax relievable pension saving) which is currently £1.25 million.
People with large pension pots (including people with sizeable accrued benefits under final salary pension schemes) may have taken steps to protect their pension savings by applying for special types of tax protection, called enhanced or fixed protection. The protection is against the tax penalties associated with accuring pension benefits in excess of the lifetime allowance cap.
Where employers make changes to their registered life schemes they need help to avoid risks. Some pitfalls include:
- Shattering the tax protections for protected employees where they are admitted as members of a new registered life scheme. These employees should only be admitted as members of excepted arrangements.
- Missing documentation - the trust document is required for the trustees to administer the trust and be able to pay out the benefits free of inheritance tax. A member booklet or policy summary is not enough.
- Differences between the benefits described by the trust documents and the underlying policy. This can lead to a funding shortfall for the employer following a member's death.
- Inadequate powers in the trust documentation to effectively administer the scheme, including powers to establish separate children's trusts for beneficiaries following a member's death.