The difference between a death in service policy and life insurance

It’s a benefit that may be available through your employer, which means you don’t normally need to pay for it. But, here are 5 things you should know: 

It’s not a given - not all employers offer a death in service benefit. 

It’s not all the same - the benefit may differ from employer to employer.

It’s probably got criteria to meet - depending on how the benefit is offered, you’ll need to be actively employed at your workplace and you may need to be a member of your employer’s pension scheme to qualify. Also, you’ll lose the benefit if you leave your job for any reason. 

It’s not entirely in your control - your employer will decide how much the lump sum payout will be, which could be between 2 and 8 times your yearly salary, and you might not have control over who the beneficiary of the policy is (or assign how to use the payout). Also, although a bit more rare, some employers may offer a dependent’s pension. 

It’s typically tax free - the death in service benefit is normally paid tax free if the payment is made within two years of death and if the scheme is written under a Discretionary Trust.

The amount paid out from a death in service benefit is usually based on your basic salary, which is the amount you earn before tax and national insurance (and without counting bonuses or overtime).

Most companies choose a number, like 2, 4 or even 8 times your salary, and that’s what your beneficiary would get paid out as a lump sum if you died while still working there. So, if your salary is £25,000 and your employer offers four times that, the payout would be £100,000.

Your employer decides how many times your salary the benefit will be. Some might offer more if you’ve worked there a certain number of years or if your job has extra responsibilities. It’s also worth knowing that the amount is usually rounded to the nearest full year of salary. So, if you joined halfway through the year, it might be based on your full-time equivalent salary instead of what you’ve actually earned so far.

This benefit is normally free for you, and you don’t normally need to fill out health forms or take medical tests. But to get it, you usually have to be on the payroll and sometimes part of the company’s pension scheme.

In most cases, a death in service benefit is paid out tax-free. That means if you die while still employed, and your employer offers this benefit, the lump sum your beneficiaries receive (normally your family) usually won’t be taxed. But it's important to note that:

• the scheme's trustees need to pay the benefit within two years of being told about your death.
• the scheme must be written under a Discretionary Trust, which is what keeps the benefits out of your estate and not subject to inheritance tax. 

These points are important because inheritance tax can take a chunk out of what your beneficiary gets if your total estate is worth more than the tax-free threshold. 

The tax-free threshold, also known as the inheritance tax threshold or nil-rate band, is the amount of money a person can leave behind when they die without it being taxed. In the UK, this threshold is currently £325,000. If the total value of someone’s estate (which includes property, savings, and other assets) is below this amount, no inheritance tax is due.

If the benefit does end up being part of your estate, and your total estate is worth more than the threshold, inheritance tax might be charged at 40% on anything above the limit.

The death in service lump-sum payout doesn’t automatically go to your next family member. Instead, the scheme trustees will review your nomination form and, ultimately, determine who the beneficiary will be. This form tells them who you'd like the money to go to, like your partner, child, or someone else who depends on you financially. Yet, it's not always guaranteed that the payment will go to whoever you nominated. Often, this is because it's out of date so it's important to keep the nomination form updated.

It’s separate from your pension beneficiary form, so it’s worth checking that both are filled in and up to date. 

If you haven’t filled out a nomination form, the decision is made by the scheme trustees. They’ll try to choose someone who was financially dependent on you, but it might take longer to sort out, and there’s a chance the money could go to someone you didn’t intend. That’s why it’s a good idea to complete the form as soon as you join the company and update it if your situation changes, like after a marriage, divorce, or having children. 

If your employer uses a group life insurance policy, then the payment will go into a trust. This helps keep the money out of your estate, which means it’s usually tax-free and won’t count towards inheritance tax.

But again, the key thing is making sure your wishes are clear. A quick form now could save your loved ones a lot of stress later.

In most cases, a death in service payment doesn’t form part of your estate. That’s because it’s usually paid through a group life insurance policy that’s held in a trust. This setup means the money goes directly to the beneficiaries decided on by the scheme trustees, rather than being included in your estate for inheritance tax purposes.

It’s one of the reasons why death in service benefits are often tax-free, as long as the payment is made within two years of your death.

But there are exceptions. If your employer doesn't use a trust-based scheme, the money might be paid into your estate instead. That means it could be subject to inheritance tax if your estate is worth more than the tax-free threshold (currently £325,000). So, while it’s not common, it’s still possible for a death in service benefit to become part of your estate, especially if the paperwork isn’t in place or the scheme is structured differently.

To keep things simple and less stressful for your family, it’s a good idea to check with your employer how their scheme is set up and make sure your nomination form is filled in and up to date. It’s a small step that can make a big difference later on.

In most cases, a death in service payment can go relatively smoothly with an up-to-date nomination form and the scheme trustees agreeing with the nomination. This form tells the trustees who should receive the money and it helps avoid confusion or delays. But if there’s no nomination form, or if someone believes the wrong person was chosen to receive the benefit, then yes it can be contested.

When there’s no clear nomination, the decision falls to the scheme trustees or employer. They’ll try to choose someone who was financially dependent on you, but this can be tricky. If more than one person believes they should receive the money, like a partner and an estranged family member, it can lead to disagreements. In these cases, the trustees might need to investigate further and the payout could be delayed while they decide what’s fair.

Even when a nomination form is in place, it’s not legally binding. That means the trustees still have the final say, although they’ll usually follow the person’s wishes unless there’s a strong reason not to. For example, if the nominated person is no longer in the deceased’s life, like an ex-partner or if there’s evidence of financial abuse, the trustees might choose someone else. That’s why it’s so important to keep your nomination form up to date, especially after big life changes that can impact the dynamics for those you care about.

If you leave your job, whether that’s to retire, switch employers, or take a career break, your death in service benefit usually stops straight away. That’s because it’s a workplace benefit, not a personal insurance policy. It’s tied to your employment, so once you’re no longer on the payroll, you’re no longer covered. This is true even if you’ve worked at the company for years or were only planning to be away for a short time.

Unlike life insurance, which you can take with you wherever you go, death in service cover doesn’t follow you around. It’s not something you can transfer or keep paying into once you leave. That's why many people choose to take out a separate life insurance policy, so they’ve got cover in place no matter where they work or what happens next. It can also give you more control over things like how much cover you have, who gets the money, and whether it can be used to help pay off other debts.

If you’re moving to a new employer, it’s worth checking whether they offer a death in service benefit and, if so, how it compares. Some companies offer two times your salary, others offer up to eight. And some might only offer it if you join their pension scheme. So it’s always a good idea to ask the question when you’re reviewing your new benefits package.

Here are the main differences between death in service and life insurance benefits:

Even if you already have death in service cover through your job,” says Aviva’s Senior Proposition Manager Alison Esson, “it might not be enough to fully protect your family financially when you pass. That’s because your employer decides how much cover you get, usually a fixed multiple of your salary, like two or four times. And although that’s a helpful start, it might not stretch far enough to cover things like your mortgage, childcare, or everyday living costs if something happened to you. That’s where additional life insurance comes in. It gives you more control over how much cover you have.”

With life insurance, you can choose a policy that fits your personal situation. It may be that you want to make sure your partner can stay in the family home, or that your children have money for university. You can even take out more than one policy if your needs change, like if you get a bigger mortgage or grow your family. And unlike death in service, life insurance stays with you even if you change jobs, so you’re not left without cover during a career move or break.

Another reason people choose extra cover is flexibility. With Aviva, for example, you can choose between level cover (where the payout stays the same) or decreasing cover (which goes down over time, often to match a mortgage). 

Check out more information about the different types of life insurance cover.