Life insurance and inheritance tax

When you die, your ‘estate’ (your property, your money and anything else you own as an ‘asset’) is added up and valued. You’ll only have to pay inheritance tax on anything above a certain threshold. Depending on how much you leave behind, this could mean your beneficiaries receive less financially than you originally expected. It's worth bearing in mind that tax rules may change over time and tax liability depends on personal circumstances. You may want to talk to a financial adviser for further information. If you don't have a financial adviser, you can find one at unbiased.co.uk. Please be aware that you may need to pay for this advice.

In the 2025/26 tax year, the inheritance tax threshold is £325,000 (or up to £500,000 if the estate includes your main home and it’s left to children or grandchildren). The extra allowance only applies to your main residence, not second homes or buy-to-let properties. Anything above that amount may be subject to inheritance tax, which is currently at 40% ^{Footnote [1]}. 

The life insurance payout will be included in your estate if it's not held under trust. If this is the case, and it pushes the total value of your estate over the inheritance tax threshold, anything above it can be subject to inheritance tax at 40%.

If you’re married or in a civil partnership, the surviving spouse may be able to combine their £325,000 thresholds, effectively doubling what's called the 'nil-rate band'. This then means there's no inheritance to pay on estates valued up to £650,000.  This may increase to £1,000,000 if you give your main home to children or grandchildren, including adopted, foster or stepchildren. ^{Footnote [1]}

Yes. A whole of life insurance policy, sometimes known as life assurance, pays out when you die. This is different to the type of life insurance that pays out if you die during a specific period. With a whole of life policy, the proceeds can be used to pay off some, if not all, of a future inheritance tax bill.

You’re able to gift up to £3,000 each tax year without it being added to your estate for inheritance tax purposes. If this is unused, you’re also able to carry forward a year. As for other gifts, you can give up to £250 per person, wedding gifts can range from £1,000 to £5,000 depending on the relationship, and regular gifts from surplus income. ^{Footnote [1]} This can all reduce your estate's value.

Putting your life insurance in trust is a simple way to keep it out of your estate.

In short, a trust is a legal arrangement that passes ownership of your policy to specific people you name (known as ‘trustees’). As it’s no longer legally yours, it can’t be counted as part of your estate. This means your family get the full, tax-free benefit of your policy.

While setting up a trust is usually straightforward, there are a few things to be aware of before pushing the button. It’s a good idea to make sure you’re happy with everything, so  do your research and maybe talk to a solicitor or financial adviser too. There are legal and tax consequences to setting up a trust and, once it's done, you might not be able to change your mind and cancel it. Find out how Aviva trusts work.