An increasing number of employers are considering whether to provide their employees life assurance benefits outside of registered pension arrangements. Before switching to an excepted group life policy (“EGLP”), HR directors should be aware that there are a number of legal and practical issues to take into consideration.
1) The reduction in the LTA
If an individual builds up pension savings worth more than the lifetime allowance (“LTA”), any lump sum payable will be subject to a 55 percent LTA tax charge on the excess. The LTA (reduced to £1.25 million with effect from 6 April 2014) covers an individual’s entire private pension savings in the UK including savings from previous employers’ registered pension schemes and any personal pension arrangements. Notably, it will also include life assurance benefits which may be payable from a registered scheme if a member dies in service.
2) EGLPs – a possible solution
Excepted group life policies are currently offered by a wide range of insurance providers as a possible solution to the LTA issue in respect of death in service benefits. Whereas lump sum death benefits provided through a registered arrangement (such as a registered group life policy) will count towards the calculation of the LTA, benefits provided to beneficiaries through an unregistered excepted arrangement (such as an EGLP) will be disregarded for LTA purposes. Furthermore, given that benefits in an EGLP are paid through a discretionary trust, the benefits can still be paid to beneficiaries free of inheritance tax.
3) Key issues to consider before switching to an ELGP
3.1) Will the statutory conditions be satisfied?
There are number of strict statutory conditions which must be satisfied in relation to an EGLP. For example (i) the terms of the policy must specify an age over which no lump sum benefits will be paid on the death of the insured individual. This specified age must not exceed age 75 but it is not necessary for the specified age to be the same for all the insured persons (ii) benefits must be calculated in the same way (e.g. benefits based on a specified multiple of an insured employee’s salary) (iii) the policy must not have or be capable of having a surrender value and (iv) tax avoidance must not be the main purpose, or a main purpose, for any of the holders of the policy or any of the persons beneficially entitled under the policy. Employers will need to seek tax and legal advice in relation to these points and consider whether an EGLP is appropriate for them in the circumstances.
3.2) What (if any) exit and periodic charges will apply in relation to an EGLP?
Under normal IHT charging rules, a periodic charge is payable on the 10th anniversary of the creation of an EGLP and is levied on the value of the relevant property in the umbrella trust at that time – in other words, a tax would apply if a death occurred before the 10 year anniversary and the proceeds had yet to be distributed. A periodic charge could also arise where the policy covers the life of an employee who was terminally ill at the ten year anniversary date. Employers should also seek professional advice on the likelihood of an exit charge applying.
3.3) Will amendments to the trust documentation be required?
Insurers usually provide precedent EGLP documentation but this may need to be tailored to meet different employers’ needs. In parallel, it may be necessary to amend existing registered scheme documentation to avoid duplication of benefits.
3.4) Will insurance premiums paid for by the employer qualify for tax relief in the same way as they would for a registered arrangement?
It is not entirely clear from legislation whether the payment of premiums by an employer for the provision of an EGLP is tax deductible. In principle, premiums could qualify as an allowable deduction but different advisers (and possibly different tax offices) take different views on this and employers should consider obtaining advice in relation to this point.
3.5) Will employees need to be consulted?
If employees are moving to an EGLP from an occupational pension scheme (as opposed to from a standalone death benefit arrangement), it will be necessary to formally consult (as well as to communicate) with affected employees. Employers will also need to check that contractual promises and other communications with employees relating to life cover are consistent with the terms of any new underlying policy (both in terms of the level of cover and other terms and conditions such as eligibility criteria).
Conclusion
In his 2015 Budget, the Chancellor announced that with effect from 6 April 2016, the LTA will be reduced from £1.25 million to £1 million. As more employees are caught by the LTA threshold, we expect that the use of EGLPs will continue to be a popular choice. Employers considering the use of EGLPs should always be mindful of the statutory conditions as well as the additional administrative and advisory costs which could apply.
Chirag is an associate at Sacker & Partners LLP (Sackers), a commercial law firm specialising in advising pension schemes and pension scheme employers. He advises trustees, scheme managers and employers on a wide range of defined benefit and defined contribution pensions issues. His recent experience includes advising on liability management exercises, amending scheme documentation to reflect changes in legislation and benefit design, negotiating third party contracts, reviewing member communications, dealing with pension liberation cases and advising on the key issues in relation to a merger.
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