Scott Gallacher looks at the benefits of a relevant life policy

As professional advisers, it can be particularly satisfying to work with small companies: there is usually more opportunity for our advice and services to make a real difference and contribute to success.

However, we all know that, while professionalism and quality of advice are always essential in this area, the question of cost often tips the scales. For that reason, it's nice sometimes to be able to offer solutions that actually offer more, for less.

Interest protection

Last month I highlighted the use of life assurance plans to protect the commercial interests of company shareholders. But, of course, most life assurance is intended to protect an individual's family so, in this article, I look at how a company can provide that cover in a particularly efficient and cost-effective way.

Most commonly, people simply pay for life assurance out of their (taxed) take-home salary. (Directors sometimes have their company pay the premiums, but there's no extra advantage, since the cost is taxed as a benefit in kind.)

It's also quite common for employers to provide life cover using a group life scheme. Although no ?fund is ever accrued, these schemes are generally structured under pension rules, enjoying the same generous tax exemptions and attendant cost savings. Unfortunately, however, these multi-person schemes tend only to be attractive for larger companies (of, say, twenty or more people) and lack many of the advantages of individual plans.

What's needed is a third way: a way for a company to provide individual life cover plans for selected key employees (potentially just one or two directors), but with all of the tax savings and cost savings that larger schemes enjoy.

Enter the relevant life policy (RLP).

I should say that RLPs aren't an esoteric strategy: they've been explicitly provided for in legislation since 2003 and are available from most of the household name insurers.

A relevant life policy is a normal life assurance plan, so, on death within the set term, it pays a lump sum to the stated beneficiary, free of inheritance tax. In this case, the stated beneficiary is a discretionary trust so that, after death, the trustees are free to appoint the money to members of the family. The differences lie in that the employer pays the premiums and the special tax exemptions that apply.

The premiums, (paid by the employer), are tremendously tax-efficient for both the employer ?and employee. They are exempt from National Insurance on both sides, and because they aren't classed as a benefit in kind, the employee's position is entirely unaffected.

For the company, premiums are normally treated ?as a trading expense, escaping corporation tax. As always, this is subject to the rules on the benefits being 'wholly, exclusively and necessarily for the purposes of trade' '“ but this should rarely present concerns, except in unusual circumstances.

Impressive results

These tax savings not only mean that new cover can be effected at almost half the cost of a personal policy, but also give impressive results when existing arrangements are revisited.

As an example, take a hypothetical director ?(a higher-rate taxpayer), who pays £100 a month on a personal basis, for £100,000 of cover. Suppose the director's net (take-home) salary was reduced by £100 a month. Now paying less gross salary and less national insurance, the company saves £196 a month.

The company uses its £196 per month windfall to fund a new relevant life policy for cover of £196,000 (this assumes that the client remains insurable and no medical underwriting concerns arise). Once the new policy is in place (and only then), the old policy is cancelled. The outcome is that both the company and the director are in precisely the same net financial position as before, but the director's life assurance is (almost) doubled.

Alternatively, if existing costs are a concern, the same level of cover could be obtained for (almost) half of the cost.

Unlike other plans, there is also no annual round of renewal paperwork for the employer to deal with and no annual (and unwelcome) premium increases. Also on setting up the plans, the process is relatively simple and free of red tape.

RLPs are especially helpful for those with large pension entitlements. Standard group life schemes, being based on pension rules, interfere with the member's annual contribution allowance. Also, any payout on death is counted towards the overall maximum that one can build up in a pension. High-paid executives can quite easily find that an unwelcome tax liability results.

In contrast, RLPs have nothing to do with pensions, and don't infringe the member's allowances at all.

Another advantage is portability. If the employee leaves a company, a standard scheme will (generally) simply stop. In contrast, an RLP can be taken over by a new employer, or else assigned to the employee, who can take over the premiums themselves.

Keeping the plan intact in this way can be very important where a member's health isn't what it used to be, and who might find brand-new cover expensive or even unavailable.

Of course, there are some limitations:

• RLPs can only be provided to employees; the self-employed and partners cannot benefit (although an employee of a partnership, LLP or sole trader is eligible).
  

• There are generally limits to the level of ?cover '“ usually, dependent on age, between ?ten to twenty times annual remuneration, including dividends. This is not a legislative requirement, but rather a limit set by the life companies' reassurers.
  

• The plan must finish no later than age 75, and cannot be inflation-proofed.
  

• The plan can only cover death, so critical illness and waiver of premium benefits can't be included.
  

Valuable investment

As has already been mentioned, the payout on ?death doesn't form part of the member's pension lifetime allowance and nor are the benefits liable to income tax. In addition, because the money is payable via a discretionary trust, the money doesn't fall into the late employee's estate, and so will normally not suffer any inheritance tax.

At that point, very often, the trustees of the plan will simply pay the lump sum directly to the beneficiary the member has nominated in advance (normally a spouse or children).

However, there are various other options, namely:

• the money could be retained in the trust, perhaps skipping a generation entirely if appropriate, or perhaps providing an income to the widow(er) until their death (after some years, additional taxes may come into play, but these are normally fairly minor, and often nil); or
  

• where the widow(er) has a substantial estate themselves, the trust might make a series of repayable loans instead, thereby not adding to (and potentially alleviating) an inheritance tax charge of the second death.
  

There are various other options here, and flexibility is the key in each case.

It's sometimes possible for small businesses to ?see their various advisers as a necessary expense, ?rather than as valuable professional partners.

However, we've been delighted by the responses from our clients, who have immediately grasped that this area offers not an additional layer of complication and expense, but rather a genuine and cost-effective improvement to their business.