How the Rysaffe principle can bring big IHT planning benefits

19 June, 2023

Protection Taxation and trust

Creating separate trusts with separate whole of life policies on different days can prove valuable to clients. Here’s how…

Successive Chancellors have reviewed a number of key areas in the inheritance tax (IHT) arena over the years, ranging from changes to non-domiciles, to the freezing of nil-rate bands until 2028.

As a result, IHT continues to be one of the most controversial taxes, especially as 2022/23 saw a £1bn increase to a new all-time high of £7.1bn and is forecast to hit £8.3bn in 2026/27, if not earlier! Twice as many estates since 2019 are now paying IHT, with the average bill being in excess of £216k.

Sources: HMRC Tax & NIC receipts 21 March 2023, Techlink/Budget 2018 report and OBR Economic & Fiscal Outlook March 2022 and www.gov.uk/government/statistics/inheritance-tax-statistics-commentary/inheritance-tax-statistics-commentary and https://professionalparaplanner.co.uk/people-paying-iht-doubles-since-2019/

Whilst there are many IHT planning methods, the use of whole-of-life (WOL) protection policies to generate a lump sum on the client’s death to pay the IHT, have grown in popularity due to the fact that they retain access and control of their hard-earned wealth, whilst only having to pay a guaranteed monthly premium. In turn, these policies must be written in trust to, amongst other reasons, avoid the sum assured going back into the estate.

Discretionary Trusts

Discretionary trusts are a popular choice due to the flexibility they provide over who will benefit from the trust property.

However, there was a time when Interest In Possession trusts and Accumulation and Maintenance trusts were widely utilised due to their favourable tax treatment when compared to discretionary trusts. That changed from 22 March 2006, as from that point, all these trust types fell under the relevant property regime. This meant that Discretionary trusts were then more widely adopted as lifetime gifts into any of these types of trusts would be treated in the same way, e.g. payments treated as chargeable lifetime transfers and the trust assessable to entry/periodic/exit charges.

Whilst the above change appears to have been intended to hit those who were placing large cash sums or other assets into trusts to avoid taxation, life policies being written into trust, got caught up in the legislation because the underlying trust is the same.

However, in this ever-changing world we find ourselves in, there are still opportunities to add value for clients and one area that is often overlooked for IHT planning, whilst using a WOL policy held within a discretionary trust, is the use of the Rysaffe principle.

New day, new trust

This came to fruition in 2003 following Rysaffe Trustee Co (CI) versus Inland Revenue Commissioners. The case related to legislation where a series of trusts were created on consecutive days.

The Court decision, in broad terms, found that even if trusts are created by the same settlor, they will not be classed as related settlements for IHT purposes, if created on different days. This enables your client to reduce the impact of the 10-yearly periodic and exit charge, as they will benefit from having a nil-rate band (NRB) for each individual trust.

Many associate this planning strategy for investment purposes only, as it was popular for large on/offshore life assurance bond planning.

Ten years ago, the Treasury considered disrupting this planning technique by proposing a single ‘settlement NRB’ that would have been divided between all of a settlor’s trusts. Thankfully, this idea was dropped in favour of an anti-avoidance ’same-day added property’ rule, that now specifically targets same-day additions.

This impacted asset-backed pilot and multiple trust strategies but not the use of life assurance protection policies (that aim to pay the IHT, not reduce or avoid it). This was because payment of the premiums and the sum assured under these plans is deemed to be an increase in the value of the asset, not a same-day addition, so this planning strategy has remained a viable option.

Therefore, the Rysaffe principle can still be useful for life assurance policies – by ensuring the trust value doesn’t exceed the NRB at any point. However, many people believe that as modern-day WOL policies have no investment value, there is no trust value on which to make a periodic charge, but in practice the value for this is the greater of:

Total premiums paid at each 10-yearly anniversary (does not apply to term policies),
the open-market value if it was to be sold (in anticipation of death), or
the actual value of the trust (if the sum assured has been paid and was still in the trust at the 10-yearly anniversary).

In reality, this would only apply to a very small number of cases, but these are likely to be high-net worth clients, with significant sum assureds/premiums, lower available NRBs or younger.

The Rysaffe principle in action

Let's take a look at an example highlighting the benefits of the Rysaffe approach...

One trust	The Rysaffe solution
£5 million sum assured	Split into five policies with £1m sum assured each, in five separate trust arrangements (maybe each for a different beneficiary), set up on five different dates
£53k annual premium	Each policy has a premium of c.£10,600 payable monthly, i.e c.£883 per month (multi-policy fee discounts apply)
After 10 years, the total premiums paid will be £530k. Therefore, a 6% periodic charge of £12,300 applies on the excess over the NRB (£205k x 6%)	It would be almost 31 years before the current NRB is breached under each trust (£325k / £10,600 = 30.66)
Plus, there be a further charge of £44,100 after 20 years (£735k x 6%) and £75,900 after 30 years	There would only be a periodic charge after 40 years, of £5,940 on each trust (£99k x 6%)

Note: The above assumes that premiums are paid monthly, no other CLTs have or are made and that the NRB remains at £325,000 throughout.

Of course, the real benefit comes when the client/life assured dies and the sum assured is paid into the trust, for the trustees to distribute out to the beneficiaries. As if there was no periodic charge at the last 10-year anniversary, then there is no exit charge...if not, then this could be quite considerable! If the above client died after 35 years, then there would be an exit charge of c.£120,000 vs zero using Rysaffe.

As a general ‘rule of thumb’ in deciding whether to use Rysaffe or not, divide the available NRB by the annual WOL premiums (remember to take into account any indexation), to establish how many years it would take before they exceed the NRB. If this, plus their age, is less than their life expectancy, then split policies. For example, a client aged 50, with a life expectancy of 85, paying premiums of £1,000pm, would exceed after 27 years (£325k / £12k = 27 years + age 50 = 77 vs 85).

Most trusts holding a pure protection policy are excluded from registering on HMRCs Trust Registration Service. However, that position can change and this would include when the trust suffers tax charge, such as a periodic charge. So, another good reason to adopt the Rysaffe principle.

It is clear that Rysaffe is still alive and well when it comes to IHT planning utilising WOL policies.

Andy Woollon is a Technical Protection Specialist & Presenter at Zurich

Note: The Rysaffe principle was not under review by HMRC at the time of publication, but may be in the future. All figures and tax bands used in this article were correct at the time of publication.

If you would like to set up a policy this way, please call our New Business Help Point or Technical Team, and they will be happy to assist you with the next steps.