INSURANCE TODAY

Special uses for life assurance

John Gaselee

A number of financial problems can be solved, in one way or another, by the

right form of life assurance. For instance, due to the investment exPertise of the life offices, coupled with some tax relief on the premiums and II° tax to pay on the proceeds from a (laalifying policy, life assurance can be a Practical way of repaying a house

the loan, spreading and reducing

Ine cost of school fees, or mitigating the effect of estate duty at the end of the day. f.IfYOu obtain a flouse purdhase loan 3n1 a building society (and there are not many other sources at the moMent), probably it will want you to °lake Level repayments, consisting Partly Of capital and partly of interest on the capital still outstanding. In this the society gets back the capital :11ring the term of the mortgage, and 'an lend it out to others.

That system has the attraction that Your net payments will be quite low

flci (barring alterations in the rate of Interest) will increase gradually as interest (on which full tax relief can be claimed) becomes a progressively 'Mailer proportion of each payment. A cheap life policy will be needed, s,i,InPly to cover the amount of the loan outstandng at your death, in case ,Y°° should die before the end of the term. Often, however, much better ,.value for money will be achieved by "sing a life policy to repay the loan. In this event, the loan remains outstanding for the full term of the mort age, with interest being paid on it. Some building societies, by the way, charge a slightly higher rate of inter est if this method is adopted. At the outset, a with-profit endowment Policy is taken out so that it will mature when the loan is due to be reThus the proceeds from the "cincy at maturity will repay the Whole of the loan. In the past, a with-profit policy was ranged for the full amount of the ao• This meant that, with a reasonable rate of bonus, there could be a substantial tax-free surplus at the end 9,1 the period, alter repaying the loan., t`,..hIs surplus might be as much as 'vice the original loan.

. The drawback to that arrangement

that high premiums are paid invoughout the term, so that it is a „Grin of compulsory saving. Whilst a "°n-profit policy attracts much lower rflrerniUms, it will simply repay the 'an at maturity, with no surplus. A good compromise (which, in fact, sometimes is cheaper in terms of Monthly outlay than a non-profit PPolicy) is to use what is sometimes reerred to to as a bonus reinforced policy. . A with-profit policy is arranged, but, Instead of it being for the full amount Of the loan, the sum assured at the outset is appreciably less than this. This is because, provided bonuses are maintained in the future at their cur rent rate, the maturity value of the Policy will be well in excess of the

amount of the loan to be repaid.

With this type of contract, the premium may be about half that for a conventional with-profit policy (arranged for the total amount of the loan). Nevertheless, provided bonuses are maintained in the future, the loan will be repaid on the due date, and there will still be some tax-free surplus for you.

The point to remember about this is that future bonuses cannot be guaranteed — even though traditional insurance companies are conservative and very much hope to be able to maintain current rates.

For this reason, generally there is a ' safety margin.' The sum assured under the policy may be calculated so that, if bonuses are maintained at no more than 80 per cent of their current value, the loan will be repaid in full. Naturally, a higher rate of bonus will result in a surplus due to you. This only leaves the problem of .death during the period before bonuses have built up the sum assured to the amount of the loan. This has been overcome by the insurance companies undertaking either to pay the full amount of the loan or the actual value of the policy at the time — whichever is greater.

For those who think that investment in equities should give better value for money than a profit-sharing! policy, a policy linked to the units of a unit trust can be arranged.

Although there are plenty of 'unitlinked policies on the Market, very few provide a high guaranteed sum at maturity. Such a policy is needed for this purpose, since the building society will accept it only if there is a guarantee that the maturity value will not be less than the amount of the loan to be repaid.

Normally, the premium for this type of unit linked policy will be appreciably cheaper than for a full scale withprofit policy, but more expensive than for a non-profit policy or the modified type of with-profit contract described above.

If school fees have to be met, there are a number of ways in which life assurance can come to the rescue, ranging from the provision of' instant' fees for those who need to borrow at the outset, to schemes for the prepayment of fees in a lump Sum with useful estate duty advantages.

If _fees are needed more or less at once, provided you measure up to the necessary status reqirements, an insurance company may make arrangements for you to borrow the fees as they fall due. Naturally, interest will have to be paid on this accumulating loan, but full relief of income tax can be claimed on it — apart from the first £35 each year.

Normally, an endowment life assurance policy will have to be taken out at the same time, so as to repay the loan some years after the child has left school. This policy, for instance, may run for ten or fifteen years, thus spreading the cost of the fees well into the future.

The cheapest type of policy in terms of monthly outlay will be a non-profit contract, but it will do no more than repay the estimated total amount ,o1„ the loan. Almost certainly, better value for money will be achieved by taking a policy linked directly either to a property fund or a fund which is invested in equities, property and fixed interest securities.

Instead of borrowing money at the last moment, it will be much cheaper if you can afford to start putting aside money some years before the first fees will have to be paid. For instance, an endowment policy can them) be arranged to run until your child is due to leave school ,— provided the period is not less than ten years in all. As fees have to be paid to the school, they can be borrowed from the Insurance Company against the security of the surrender value of the policy. Here again, tax relief can be claimed. An alternative, where a policy is arranged on a profit-sharing basis, is for some of the bonuses already attaching to the policy to be surrendered, free of tax. Although this aCtion will not affect the underlying policy in any way, much less than the face value of the bonuses will be paid • if they are surrendered in this way. This is because the full face value is paid • only when a policy becomes a claim through death or maturity.

If a capital sum is available (perhaps , from one of the child's grandparents), this cart be paid in advance so as to meet all or a substantial proportion of the anticipated fees.

Many public schools have their own individual schemes, which offer good value for money. Also, there are independent trustee schemes which can be helpful to parents who have not decided on the school to which to send a child.

Normally, with this type of scheme, a capital sum will guarantee fees of a fixed amount starting on a specified date in the future. One is then left with the problem of estimating the level of fees which can be expected in the future.

With one scheme, provided there are at least five years to run before the fees will be needed, 75 per cent of the capital payment is invested in a property bond fund, with the remaining

25 per cent being used to iH,••. 1,1 ;.,1•11 anteed payments, This, it p;, will provide some ' hedge' flation, although, naturally, no riiarantee can be given about the.perfortn. ance of the property fund. • There are important estate si-nty ad vantages in that, provided tile':1)erso» making the capii,, I i. Ill-lit his right to ask !or the .:Iiii.e11,1eril the payment in the future, no estate duty will be levied on the capital sun] after it has been paid over — irrespective of how soon afterwards the sett lor may die. There is, therefore, not the usual risk of all or part of the payment being clawed back into the settlor's estate for duty purposes if he, should die within seven years of making the payment.

This, therefore, can, be particularly suitable for grandparents wishing to. help their grandchildren. There is, in effect, ' instant' relief from estate duty. and of course. the advantage 11111, it death, the value of the estaii• will he lower than would otherwise ha e been the case, Some employers are setting up sche mes to help employees with the cost of school fees. Sometimes, employers, will provide a guarantee so ihit parent can take Out a life policy and borrow fees from the insurance company more or less straight a \\ay

Another method is for all einolovor

to 1\eyrilt(111 mt 11°i1s1Cf.>(,i(r): et Id in (Ibliree (1))iil'is-slis•

by means of a maturing endownicni policy. This capital 51101 can then he used as a payment in advance. along the lines mentioned abo‘e.

Since the starting limit for eState duty is 1:15,000 apart from a concession of f.:1 5,000 left to a surviving spouse, it is important to take steps in good time to mitigate its effect. Here, also, life assurance can help in a number 01' Ways,

In the first place, if gifts :in' made to others, there will be an estate duly liability (in respect (lc all or a proportion of the value 01 the gilts) ill till-silt of one's death within seven years of making the gilts. One way for beneficiaries to protect their position is to take out seven-year term assurance on the life of the donor — for the estimated amount of duty which would be payable on their gifts.

Another Way 01 taCkialr eS1■11C (11.11Y is to take init a life policy which will pay out at death. :1 sum which, itsell, will he free trot» duty --at id 11101-/ ian

be used to meet the duty which, inevitably, will have to be paid on the ma in estate.

There are different ways of arranging such a policy. For instance, a wife can take out a policy on the life of her husband. On th,. other hand, anyone with a potential estate duty problem can take out a policy under the terms of the Married Women's Property Act for the benefit of his wife and/or children. Or policies can be effected under declaration of trust for the benefit of grandchildren and others who are not covered by the Married Women's Property Act.

Each premium may be treated as a gift to the beneficiaries of rights under the policy. Provided, however, the gifts qualify as normal expenditure, the proceeds from the policy should be free from estate duty. Unfortunately, one cannot agree with the authorities before death as to whether certain payments count as 'normal expenditure'. There are, however, various guidelines. For instance, one condition is that one must have been in the habit of making gifts of a comparable nature. Fortunately, paying premiums towards a life policy is habitual, and this is accepted by the Inland Revenue.

Secondly, gifts must be made out of income. Here again, definition is not easy but 'income ' means income determined on accountancy principles after tax (and not income as ascertained for tax assessment). Also, there is a stipulation that, after allowing for all gifts forming part of one's normal expenditure, one must have been left with sufficient income to maintain one's normal standard of living.

In fact, no problems should arise with the majority of bona fide policies taken out reasonably early in life.. Clearly, however, if a policy is not arranged until comparatively late in me, and then for a fairly substantial sum, the premiums may not qualify as ' normal expenditure.' Apart from specific estate duty p vision, the subject needs to be bo in mind whenever any life policy taken out. All too often, no special rangements are made, with the res, that, when the policy becomes a cla,i through death, the proceeds will Si ply be added to the main estate of , person concerned and increase the 1!8 bility to duty. Generally, once a polic has been arranged, it is too late to l• to make alterations so far as the estal duty aspect is concerned. This is an area where specialist ad vice should be sought at the outsel Otherwise, if there is some oversigh when the policy is arranged, all th good intentions could be to no avails, far as estate duty is concerned.