Taxation of life insurance gains

By Tolley
  • (Updated for Budget 2020)
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The following Personal Tax guidance note by Tolley provides comprehensive and up to date tax information covering:

  • Taxation of life insurance gains
  • Taxation of life insurance gains
  • Top slicing relief
  • Tax planning
  • Deficiency relief

This document discusses all the available reliefs for residential property businesses such as replacement of domestic items relief (2016/17 onwards), replacement of fixtures (2013/14 onwards), statutory wear and tear allowance (2011/12 to 2015/16), statutory renewals basis (2015/16 and prior years) and others.

 

The profits from the surrender of certain life insurance policies are treated as savings income (rather than capital gains) and taxed last after all other income (‘top sliced’, see below) in the income tax computation. Usually the gainhas a 20% deemed tax credit attached, which means that if the policy-holder is a basic rate taxpayer he will not have any further tax to pay. For more on the tax credit, see the Life insurance policies guidance note.

Different rules may apply to foreign policies and these are covered in the Offshore bonds and other foreign policies guidance note. That guidance note also explains how to find out if your client has a foreign policy.

However, there is an inherent unfairness in treating the life insurance gainas income in the year of surrender; the profit has actually accrued over the lifetime of the policy but due to these provisions is subject to tax all in one year. This can be advantageous if the taxpayer is able to ensure his other income is low enough to allow all the life insurance gainto be taxed at the basic rate (see below). It is a disadvantage where the gaintakes the taxpayer into the higher rate or additional rate of tax.

Top slicing relief is a mechanism aimed at correcting this unfairness, but it only applies where the taxpayer straddles the tax bands purely as a result of the life insurance gain(eg he would have been a basic rate taxpayer, but the life insurance gaintakes him over the basic rate limit).

No relief is available where the policy-holder would still be a higher rate or an additional rate taxpayer even if the life insurance gainwas removed from the income tax calculation.

Deficiency relief is discussed at the end of this guidance note.

As a result of HMRC’s defeat in Silver, the calculation of top slicing relief is to be amended (in the taxpayer’s favour) in relation to any chargeable

More on Savings income: