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Using insurance policies to help fund Inheritance Tax liabilities

1 July 2026

Inheritance Tax worldwide – how does the UK compare?

Inheritance tax (IHT) can have a major impact on the wealth you leave behind for your loved ones. Many countries operate inheritance or estate taxes; however, the way they’re applied – the thresholds involved and the rates charged – can vary significantly. In the UK, passing on your wealth can ultimately come with a tax charge payable to HMRC.

Although IHT is regularly debated politically, it continues to generate significant revenue with £13.5 billion in annual tax receipts expected by 2031.

It is worth noting that:

The 40% IHT rate is one of the highest globally.
Around a third of developed countries have now abolished inheritance taxes altogether, though many still tax wealth and transfers of value through other means.

UK Inheritance Tax (IHT) tax rates and allowances

In the UK, IHT is generally applied to the net value of your worldwide estate if you are a long-term UK tax resident rather than to the beneficiaries directly. IHT is only applied to the value of your estate situated in the UK if you are non-UK resident for IHT purposes. IHT is charged on death at 40% of the value of the deceased’s net estate once available IHT allowances, reliefs, exemptions and the IHT nil rate band (NRB) have been deducted. The value of gifts within 7 years of death will also require to be taken into account when establishing the IHT position.

Under current rules, each person has an IHT nil rate band (NRB) of up to £325,000, which is a 0% IHT rate. The deceased’s estate up to the value of the available IHT NRB will therefore pass IHT free.

If you have direct descendants, e.g. children, grandchildren, stepchildren, who will be beneficiaries of interests in your residential home or the proceeds of your residential home, you may be able to benefit from an additional IHT allowance of £175,000, called the residential nil-rate band (RNRB). This enables the value of your residential home up to your available RNRB to be passed on without an IHT charge. It is important to note that there are a number of conditions that require to be satisfied for you to qualify for the RNRB. The level of the RNRB available may also be tapered if the value of your estate exceeds £2 million.

Unused IHT NRBs and RNRB’s on the first death can be transferred to a surviving spouse or civil partner resulting in up to £1 million passing IHT free on the second spouse’s death.

Reliefs such as Business Relief and Agricultural Relief may also apply in certain cases, reducing or eliminating tax on qualifying assets.

Significant change from April 2027

From 6 April 2027, the value of your private pensions may be treated as part of your taxable estate. It has been estimated that this will result in around 153,000 further estates becoming subject to IHT and/or facing additional IHT reporting measures. The potential financial planning benefits of using private pensions as an IHT efficient investment may no longer be an attractive option, leaving many of us looking for other ways to mitigate all or part of our IHT exposure. Using a whole of life insurance policy for IHT

A whole of life (WOL) policy is a life assurance plan that pays a guaranteed sum on death, regardless of when the policyholder dies. When a WOL policy is written into a trust, the payout goes directly to the nominated beneficiaries rather than forming part of the deceased’s taxable estate. This keeps the death benefits outside the scope of IHT, allowing it to be applied to pay some or all of the IHT tax due without the deceased’s executors having to consider the sale of other parts of the estate for this purpose.

This approach can provide peace of mind that beneficiaries receive their intended inheritances while the IHT liability is covered separately.

As with all financial planning options, there are benefits and limitations to consider. The potential benefits of a WOL strategy include:

a guaranteed payout
immediate availability of funds to settle the IHT liability (Confirmation (Scottish probate) is not required)
flexible annual or monthly premiums (which can sometimes be funded using annual gift exemptions)
inflation protection with some policies allowing premiums or payouts to be indexed to inflation.

Limitations to consider are:

higher premium costs due to the guaranteed payout
medical underwriting where health status, age, and life expectancy can increase premiums
potential trust setup costs which require legal advice to ensure the payout is made to the Trust as opposed to the deceased’s estate.

Using 7-year insurance policies for lifetime gifting

Gifting assets during your lifetime can reduce the value of your estate and potential IHT liability. However, in most circumstances, the value of lifetime gifts will still be included in your estate for IHT calculations for seven years from gifting, reducing your NRB by the value of the gift during this period. This could create a higher IHT liability on your estate while your NRB is reduced.

You can insure against your lost NRB by using a seven-year term insurance policy to pay out a guaranteed sum into trust should you pass away within seven years of gifting. For example, if Mrs Smith gifts her daughter £250,000 to assist with a property purchase, she would have to live for seven years after the date of gift for the value of the gift to be outside of her estate for IHT. Until then, because the value of her NRB has been reduced by £250,000, it risks an additional £100,000 of IHT liability falling due on her estate. A seven-year term policy that pays out £100,000 into Trust keeps the sum outside the scope of IHT, allowing it to be used by Mrs Smith’s beneficiaries to pay some or all of the IHT tax due without reducing the value of other estate assets.

If the value of a lifetime gift exceeds your available NRB then this creates a potential IHT liability for the recipient if you pass away within seven years of the gift. However, taper relief applies to the gift after year three of the gift with the IHT rate reducing year on year the closer you get to the seven years. A tapering, seven-year inter-vivos policy pays out the IHT liability into Trust and automatically reduces the level of cover over the policy term in steps to match the reducing IHT liability.

In summary

Whole of life and term insurance can be a powerful tool for IHT planning, providing a guaranteed, tax-efficient way to cover liabilities while preserving the estate for beneficiaries. Placing the policy in Trust is key to keeping the payout outside the deceased’s estate and ensuring it is available for your beneficiaries when needed.

Individual circumstances determine if a WOL or lifetime gifting is an appropriate IHT mitigation strategy and financial advice is recommended. Our team of financial planners at Anderson Strathern Asset Management are here to help, and offer a no-cost, no obligation initial meeting to give you an opportunity to discuss your current circumstances.

20 March 2026
| Arlene Ewing

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