The premium limitation on qualifying life policies and restricted relief qualifying policies – part 4

The questions primarily relate to the implications for qualifying policy status following a premium increase which may cause the £3,600 annual premium limit to be breached. Such a breach could result in the policy becoming a restricted relief qualifying policy (RRQP). This means that the benefits under the policy will not be fully relieved from income tax when a deemed chargeable event occurs.  In some circumstances a qualifying policy could also become a non-qualifying policy in which case the benefits under the policy would not benefit from tax freedom.

In the fourth and final part on this topic we examine what causes a qualifying policy to become a RRQP and how chargeable event gains are calculated for such a policy.  We then go on to look at the circumstances in which information has to be provided by a policyholder and an insurance company to enable HMRC to apply the legislation.   

 

BACKGROUND 

a) A summary of the main changes in the 2012 Budget

The main changes to the extent to which a person could benefit from tax freedom under the qualifying policy rules were as follows:

• The total premiums payable by one individual owner on all "new" qualifying policies must not, from 6 April 2013, exceed £3,600 in a 12-month period; 

• For these purposes a "new" qualifying policy is one taken out: 

• after 5 April 2013 (unless it is an excluded policy); or 

• between 21 March 2012 and 5 April 2013 (the transitional period) – but the new rules only apply to premiums paid after 5 April 2013; or 

• before 21 March 2012 (known as protected policies) but only if those policies are varied after 20 March 2012 and become RRQPs because they cause the £3,600 annual limit to be exceeded.

If a policy is issued on or after 6 April 2013 and the total premiums payable exceed £3,600 in a 12-month period, or could exceed £3,600 as a result of options or terms within the policy, then the whole policy will be non-qualifying. The annual premium limit applies to premiums payable throughout the life of the policy.

 

b) The owner of the policy for the purposes of the £3,600 rule

Clearly, it is important to identify which policies belong to which person in order to determine whether the £3,600 limit has been exceeded by that person. The general rule here is that a policy belongs to a person if they are the beneficiary of a policy. 

In broad terms, the beneficiary is the beneficial owner of the policy. This is the individual entitled to benefit from the proceeds of the policy. Where there is more than one beneficial owner of a qualifying policy the premiums under the policy will count in full towards each beneficial owner’s premium limit of £3,600.

 

c) How the system works

The rules work on the basis that you must first establish all of the policies that a person (the beneficiary) owns that may be affected by the rules. Having done this it is then necessary to ascertain the premiums paid to all of those policies to determine whether or not the £3,600 limit is exceeded. 

A tax exemption under the qualifying policy rules will then be given to the benefits arising from the first £3,600 of premium payments to the affected policies. This exemption is given to benefit payments under a policy on a chronological basis. 

Any tax charge is based on the deemed chargeable event gain under the policy. This means that a proportion of the deemed chargeable event gain will be tax free (ie. that attributable to the first £3,600 of premiums paid on “new” policies) and the balance will be taxable.

In summary, therefore, it is necessary to deem that a chargeable event gain arises under a qualifying policy and then apportion the gain between the taxable and the tax-free element. The deemed chargeable event gain will be calculated in the normal way, ie. surrender value paid less premiums paid, and then be apportioned between the taxable and tax-free element.

 

RESTRICTED RELIEF QUALIFYING POLICIES

a) How a policy becomes a RRQP 

As will be appreciated from parts 1 - 3 of this topic, RRQPs are an important part of the new legislation. Basically, the essence of a RRQP is that it is a qualifying policy but there will not be full tax relief on the benefits paid when a deemed chargeable event occurs. A qualifying policy will become a RRQP where:

• a qualifying policy is issued after 20 March 2012 but before 6 April 2013 (ie. within the transitional period) and the beneficiary of the policy is in breach of the annual premium limit as a result of the issue of that policy; 

• after 5 April 2013 certain assignments of a qualifying policy that was issued before 21 March 2012 where the assignment results in the assignee being in breach of their annual premium limit in respect of that policy – see part 3 for more detail on this; 

• a qualifying policy that was issued on or after 21 March 2012 is significantly modified before 6 April 2013, such that the premium payment term could be lengthened or the total premiums increased, and the modification results in the beneficiary of the policy being in breach of the annual premium limit; 

• there is a significant modification on or after 21 March 2012 of a qualifying policy issued before 21 March 2012 where that modification results in the premium payment term being lengthened or the total premiums increased and the beneficiary being in breach of the annual premium limit. (Note the modification rules differ depending on whether this occurs before 6 April 2013 or after 5 April 2013.); 

• there is a significant modification on or after 5 April 2013 of a qualifying policy issued before 21 March 2012 where that modification results in the premium payment term or the premiums payable being decreased and in the beneficiary being in breach of the annual premium limit; 

• following a deceased beneficiary event on or after 6 April 2013 where the new beneficiary is in breach of the premium limit and the policy was issued before 21 March 2012. Broadly, a deceased beneficiary event occurs if, in connection with the death of one individual beneficiary, another individual who was not a beneficiary becomes a beneficiary under the policy. When the policy rights pass to the new beneficiary the annual premium limit will then be tested in respect of that new beneficiary.

The impact of a policy becoming a RRQP is that the policy benefits attract full tax relief in respect of premiums paid up to the date that it becomes a RRQP or, if later, 5 April 2013. From that date, relief is restricted to the balance of the annual premium limit of £3,600 which is not used up by other qualifying policies.

Where a RRQP is assigned on or after 6 April 2013, and the assignment is an excluded assignment:

• The policy will remain a RRQP if the assignee is not in breach of the annual premium limit. 

• The policy will become non-qualifying if the assignee is in breach of the annual premium limit.

 

b) The effect of a policy becoming a RRQP on a chargeable event gain calculation

This is best demonstrated by a couple of examples.

• Jonah

Jonah effected a qualifying policy on 1 January 2000. It is therefore a protected policy. Annual premiums under the policy are £4,000. No other qualifying policies are held and the maturity date of the policy is 31 December 2024. 

On 31 December 2013 the policy is varied and the amount of premiums payable per annum is increased to £5,000. The protected policy now becomes a RRQP.

The total premiums payable under this policy are (£4,000 x 14) and (£5,000 x 11) = £111,000.

The policy matures on 31 December 2024 giving rise to a deemed chargeable event gain of £100,000.

Relief in full would be available for the £4,000 per annum premiums paid from 1 January 2000 to 31 December 2013 (£4,000 x 14 = £56,000).

Relief between 1 January 2014 and 31 December 2024 would be restricted to £3,600 per annum premiums (£3,600 x 11 = £39,600). 

The total premiums qualifying for relief are therefore £95,600. 

The gain chargeable to tax on the maturity of the policy is reduced using the statutory formula: 

Gain	x	Total amount of allowable premiums payable
		Total amount of premiums payable

The calculation would therefore be:

£100,000	x	£95,600
		£111,000

                         = £86,126 reduction 

The taxable gain is:

Gain		£100,000
Less tax-free reduction of		£  86,126
Taxable gain		£  13,874

                                                                                 

(ii)       Sally

Sally effected a qualifying policy (Policy A) on 1 January 2000 with an annual premium payable of £4,000. It is therefore a protected policy. The maturity date of the policy is 31 December 2024. 

On 1 June 2013 another qualifying policy (Policy B) is issued with annual premiums of £2,000. This policy remains in force on 31 December 2024. 

• Policy A taken out before 21 March 2012 - £4,000 pa
• Policy B taken out after 5 April 2013 - £2,000 pa. 

No other qualifying policies are held by Sally.

On 1 January 2014 Policy A is varied and the annual premiums payable are increased to £5,000. Because this is a significant modification, the protected policy now becomes a RRQP.

Total premiums payable under Policy A are (£4,000 x 14) and (£5,000 x 11) = £111,000.

Policy A matures on 31 December 2024 giving rise to a deemed chargeable event gain of £100,000.

Full relief would be available on premiums paid up until 1 January 2014 which amount to £56,000. Relief for the premiums paid under Policy A between 1 January 2014 and 31 December 2024 would be restricted to £1,600 per annum (£1,600 x 11 = £17,600) as a result of the significant modification variation. £2,000 of the annual premium limit is already taken up by the later qualifying policy, Policy B, issued on 1 June 2013. 

The deemed chargeable event gain chargeable to tax on the maturity of Policy A is reduced using the statutory formula: 

Gain	x	Total amount of allowable premiums payable
		Total amount of premiums payable

In this case the calculation would be:

£100,000	x	£73,600
		£111,000
		= £66,306 reduction

 The taxable gain is:

Gain		£100,000
Less tax-free reduction of		£66,306
Taxable gain		£33,694

 

STATEMENTS FROM POLICY BENEFICIARIES

Due to the changes introduced by these rules it is clearly important that HMRC and insurance companies are kept informed as to a policyholder’s circumstances as regards new qualifying policies that they have effected after 5 April 2013, and any modifications that have been made to earlier policies. With this in mind, a statement will need to be made by the beneficiary of the policy in certain circumstances.

a) Who makes the statement? 

The statement needs to be made by the beneficiary (ie. the owner), or all of the beneficiaries if more than one, of the qualifying policy to the insurance company who provides that qualifying policy. Where that person is a minor, the statement can be made by a parent on behalf of the minor. 

The statement must be made to the insurance company (or the insurance company to who the business has been transferred) that provided, or is providing, the qualifying policy. 

b) When a statement must be made 

A statement will be required in the following circumstances: 

• a policy is issued on or after 6 April 2013; 

• a policy is varied on or after 6 April 2013 so that there is an increase (or potential increase) in the period during which premiums are payable and/or the total premiums payable in any period of 12 months running from the date of the variation. But if the variation is nullified within 3 months of it taking effect the variation is ignored as an event; 

• a policy issued before 21 March 2012 is varied on or after 6 April 2013 such that the premium payment term is lengthened or shortened, or the premiums payable are increased or decreased, unless the policy is: i) an endowment which provides a capital sum on death/disability before the end of the term; ii) the sole purpose of which is to provide for the repayment of an interest-only mortgage; and iii) the policy is varied for that sole purpose. 

• a qualifying policy is assigned to someone else on or after 6 April 2013 and the assignment: i) is from an individual to the individual's spouse or civil partner; or ii) is to an individual in pursuance of a court order; or iii) is to an individual in pursuance of a legally enforceable obligation relating to a divorce or dissolution of a civil partnership; or iv) is from an individual where, as a result of the assignment, the rights assigned are (or the share assigned is) held on trusts created by the individual; or v) is to an individual where, as a result of the assignment, the rights assigned are (or the share assigned is) no longer held on trusts; or vi) meets conditions prescribed by any regulations that the Commissioners for HMRC may make for this purpose; or vii) upon inheritance following the death of a beneficiary under a policy, a “deceased beneficiary event”. Such an event takes place when an owner of a policy (say D) dies on or after 6 April 2013 and another individual (say B) acquires the deceased owner’s rights in the policy. For this purpose, it does not matter if B is already an owner of the policy eg D may have owned one-half of the rights under the policy and B one-half of the rights; or viii) a non-UK policy becomes a qualifying policy by substitution on or after 6 April 2013.

A statement is not required in the following circumstances: 

• On the issue of a policy where the statement information has already been provided to the issuer and that information has not changed in the interim. 

• On assignment of a share in the rights under a policy, an existing beneficiary has previously made a statement for that policy and the information has not since changed. 

• Following a deceased beneficiary event if, before the event, the beneficiary was already a beneficiary under that policy. 

• On assignment which is for security on a debt or on discharge of a debt. 

• On assignment as part of a legally enforceable obligation relating to a divorce or dissolution of a civil partnership and the policy is to pay off an interest-only mortgage. 

• On assignment to the personal representatives of a deceased individual.

 

c) Questions on the statement

The questions on the statement identify the policyholder and seek to establish whether the £3,600 annual limit has been infringed – for example, by asking for details of any policy variations, assignments, whether the individual is a beneficiary under another qualifying policy etc.

 

d) Time limit on the statement

There is a limit on the time during which a statement can be made which is three months from the relevant event. If the beneficiary of the policy fails to conform with this the policy will automatically become non-qualifying. Relief may still be available for premiums paid up to the event (or up to the £3,600 premium limit for RRQPs) but there is no allowance for premiums payable after then. 

HMRC will accept late statements by the beneficial owner where there is a reasonable excuse for that individual failing to make the statement. The statement must be made without unreasonable delay after the situation covered by that reasonable excuse ceases to apply.

 

REPORTING REQUIREMENTS FOR INSURERS 

Where a statement has been provided by a beneficiary the insurer must submit the following to HMRC:

• The information given in a statement in respect of qualifying policies issued, varied or assigned on or after 6 April 2013. 

• The information given in an application for a policy where the policy is issued, on or after 6 April 2013. 

• For the above and for policies which ceased, terminated, matured or where premiums have reduced the insurer will also need to provide the date the policy was issued, the policy identification reference and the premiums payable under the policy.

 

a) The relevant time limits

The insurer must provide the above information in a report to HMRC within three months of the end of the tax year in which it was received.

There is no prescribed form in which insurers should make this report as long as the report contains the required information.

 

EXCEPTIONS TO THE REPORTING REQUIRMENTS FOR INSURERS 

The reporting requirements do not apply to:

• qualifying policies issued before 6 April 2013; and 

• pure protection policies.