chapter 4.pdf

4/2 R05/July 2024 Financial protection Introduction The main purpose of life assurance is to provide a benefit if the insured person dies during the term of the policy. Some life assurance policies only provide protection and oth...

4/2 R05/July 2024 Financial protection Introduction The main purpose of life assurance is to provide a benefit if the insured person dies during the term of the policy. Some life assurance policies only provide protection and others are primarily intended to be investments. This chapter focuses mainly on life assurance for protection, though we will touch on investment contracts too. Note: ‘life assurance’ is the term usually used in the UK, but ‘life insurance’ is usual in some markets. Most correctly, assurance refers to protection on events that will definitely happen, whereas insurance refers to events that may happen – for example death within a specified term. In this text, we’ll use ‘assurance’. Key terms This chapter features explanations of the following ideas: Absolute assignment Death claims Discretionary trust Frequency loading Chapter 4 Level premium Lost policies Maturity claims Mortality tables system Natural premiums Non-disclosure Premium loadings Principle of notice Pure premium Relevant life Term assurance Terminal illness policy (RLP) benefit (TIB) Underwriting A Policy types A1 Whole life assurance A whole life (or whole of life) policy is a long-term insurance policy designed to pay out a cash lump sum on death, whenever that occurs. Traditionally, such policies built up a cash value over time, although in the early years of the policy this could be very low. Most new policies now have no surrender value at any time as this can enable the insurer to offer lower premiums; such policies are subject to the less onerous Insurance: Conduct of Business Sourcebook (ICOB) rather than Conduct of Business Sourcebook (COBS) regulation. Unit-linked whole life policies were widely sold in the 1980s and 1990s but, very few (if any), new regular premium unit-linked whole life policies are sold in the UK now. Consequently, this text will not explore these policies in more detail. Funeral plans are popular with older people. Although often marketed as over 50s plans, the average age of buyers tends to be around 65. They usually offer low sums assured and premiums together with simplified or no underwriting. During the first 24 or – for some plans – 12 months, the full sum insured is often only payable on accidental death; otherwise premiums are usually returned. After 12 or 24 months, the full sum insured is payable, regardless of the reason for death. Although such policies may not offer great value, their simplicity and guaranteed acceptance can appeal to people who want cover just to pay for their funeral. Many have premiums limited to a particular age (e.g. 90). According to Swiss Re’s Term & Health Watch 2023, these guaranteed acceptance plans typically have a small sum assured but are now by far the highest selling form of whole of life assurance. Reinforce A whole life policy is designed to pay out a cash sum on death whenever that occurs. Some existing policies have a unit-linked structure, and as such they build up a cash value, but the amount may be dependent on the level of cover chosen in relation to the premium and the performance of the funds. Most policies, however, are now simple protection-only plans and so are regulated under the Financial Conduct Authority’s (FCA’s) simpler ICOBS rather than COBS. According to Swiss Re’s Term & Health Watch 2023, 20,481 new underwritten whole life policies were sold in 2022. None of these policies were unit-linked. Chapter 4 Life assurance 4/3 A1A Bonds An assurance bond is a special form of insurance contract, designed primarily for investment purposes. Most bonds are written as ‘single premium, non-qualifying, whole of life’ contracts, meaning that they have no specific maturity date. As the contract is designed primarily for investment purposes, only nominal life cover will be provided, typically just 101% of the bid value of the units held at the point of death, ensuring that the primary purpose of investment growth can be achieved without reduction for the cost of life cover. There are many different forms of bond on the market, including: standard unit linked or with-profits bonds – offering a return by reference to the performance of a fund or funds; guaranteed income bonds – guaranteeing a certain level of income to the investor; and guaranteed growth bonds – similar to the above but guaranteeing a level of growth rather than income. Chapter 4 When a single premium investment is made, units are purchased in the selected life assurance fund or funds. An annual management charge in the region of 1% will typically be charged and this is allowed for when the price of the units is set. The taxation of non-qualifying policies is covered in Chargeable gains and life assurance policies on page 5/7. A2 Term assurance Term assurance (term insurance) pays out a cash lump sum on death if it occurs during the term of the policy. There are several different types of term assurance: Table 4.1: Types of term assurance Level term assurance The sum assured is fixed throughout the term. Increasing term assurance The sum assured increases throughout the term either on a fixed basis (e.g. 5% compound every year) or in line with an index such as the retail prices index (RPI) or average weekly earnings index (AWE). Decreasing term assurance The sum assured falls each year in a predetermined way, usually to zero by the end of the term. Premiums will often be payable for a period slightly shorter than the duration of the cover. Examples of decreasing term assurances are as follows: Mortgage protection assurance has a sum assured that reduces each year in line with the outstanding capital on a capital and interest (repayment) mortgage at a specified interest rate. The rate of decrease each year is directly linked to the interest rate assumed. The higher the interest rate, the slower the year-by-year reduction in the sum assured in the early years of the loan. Family income benefit (FIB), which is often used to protect a family with young children, has a sum assured expressed as an amount of £x payable each year from death until a fixed future point. Payments may be level or increasing (also called ‘escalating’), e.g. by 5% a year, but it is, in fact, another form of decreasing term assurance – the total of the instalments paid out if there’s a claim in the early years would be greater than the total payable on a claim in the later years. The regular payments can usually be commuted into a lump sum once death has occurred. A rate of interest is used to reduce the amount that would have been paid over the remainder of the term due to the early payment. Gifts inter vivos term assurance is where the sum assured falls in line with any inheritance tax (IHT) payable on potentially exempt transfers (PETs).  4/4 R05/July 2024 Financial protection Example 4.1 Comparison between level and decreasing term assurance Jess arranges a single life, own life, ten-year level term assurance for £120,000. If Jess dies at any time before the end of the policy term, the full sum assured of £120,000 would be payable. Sam arranges a single life, own life ten-year FIB policy, which will pay out £1,000 a month from the date of death until the end of the term. If Sam dies just after taking out the policy, 120 monthly payments of £1,000 would be due, totalling £120,000. If Sam dies just before the fifth anniversary, 60 monthly payments of £1,000 would be due, totalling £60,000. Return of premium term assurance pays out on death within the term as with other types of term assurance, but also returns the premiums paid if the life assured survives until the end of the policy term. Premiums are likely to be higher than for other types of term assurance. It should be noted that these plans are technically a term assurance Chapter 4 with a pure endowment equal to the premiums paid; for regulatory purposes, such plans are investments and written under the COBS rules. Return of premium term assurance is seen more commonly nowadays in international markets and is very rare in the UK. Term assurance may have other features. The cover may be: increasing or increasable; renewable – at the end of the term a new term can be started but the premium will be higher; convertible – at any time during the term, the policy can be converted to a whole life or (in some cases) endowment assurance; or a combination of any of these. Term and whole life policies can also be reviewable. Reviewable policies are those where the premium and/or sum assured is set for a given period and is then subject to a review by the insurer to take account of mortality, expenses and investment returns, and other relevant changes. It is important for the customer to understand that, as with all reviewable policies, their policy is renewable and that at review, premiums may be increased (or the sum assured reduced). Question 4.1 Why might a FIB policy be cheaper than a level term assurance for the same initial sum assured? A3 Pension term assurance Prior to April 2006, it was possible for an individual to benefit from tax relief on term assurance linked to a pension plan – known as pension term assurance (PTA) – provided conditions were met. Tax relief is now only available on member contributions used to provide ‘protected’ pension term assurance. This includes a small number of legacy policies. Only the provider can confirm if the conditions were met. The tax relief on a protected term assurance is lost if the policy benefits are increased or the term is extended. A4 Relevant life policies Several providers now offer stand-alone relevant life policies (RLPs). Such products are designed to meet the requirements of s.393B(4)(b) of the Income Tax (Earnings and Pensions) Act 2003 and s.480-482 of the Income Tax (Trading and Other Income) Act 2005. Chapter 4 Life assurance 4/5 The relevant conditions to be met for a policy to be an RLP are: under the terms of the policy, a capital sum is payable or arises on the death in any circumstances of the insured person under the age of 75; the policy does not have and is not capable of acquiring a surrender value; no sums or other benefits may be paid under the policy except those prescribed; and any sums payable or other benefits arising under the policy must be paid to or for, or conferred on, or applied at the direction of: – an individual or charity beneficially entitled to them; or – a trustee or other person acting in a fiduciary capacity who will secure that the sums or other benefits are paid to or for, or conferred on, or applied in favour of an individual or charity beneficially. Under s.393B(4)(c) ITEPA 2003, it is provided that apart from a death benefit, other benefits that can be provided are an ill-health, disablement or death by accident benefit for an employee during service. While most RLPs only provide life cover, some pay out on Chapter 4 terminal illness too. At least one insurer pays out on a serious disability where this leads to retirement. The policy is normally arranged and paid for by the employer and written in trust for the benefit of the employee’s dependants. Providers may also allow an employee who leaves service to take a personal plan as a replacement, without the need for further underwriting. A5 Multiplans (or menu plans) Multiplans (also called menu plans and universal life plans) are single policies that can incorporate different types of cover. For example, a customer may choose a multiplan that includes level term assurance and income protection. Later, they may add critical illness cover then, later still, remove or change the income protection cover. Multiplans offer the prospect of lower charges, less overlap of cover and greater flexibility than single contracts, but can be more complex to set up. Multiplans may also include some general insurance cover as well as long-term insurance. For example, a multiplan may include in the package unemployment insurance underwritten by a general insurer. The total multiplan can be written as a single contract where the provider of the life, critical illness and income protection cover is also authorised to write the general insurance element. Otherwise, it has to be written as separate contracts. A6 The need for life cover Life cover may be needed for many reasons, for example on the death of the insured person(s) to: pay off an outstanding mortgage; pay off any other outstanding loans; provide an income for the surviving spouse or partner; pay for the costs of bringing up dependent children or to look after others (e.g. an aged parent); pay for school fees and other education costs for dependent children (bear in mind that a student taking a gap year before university may continue in full-time education until their mid-20s or later, as may someone doing postgraduate studies); provide financial support to adult children beyond education (e.g. during their early working years when their income may be low); pay funeral and other costs associated with the death of the client; pay IHT liabilities on death; or cover any business liabilities.  4/6 R05/July 2024 Financial protection Be aware Loans and mortgages are usually repayable on death. Unless covered by life assurance (either sold as part of the loan or arranged separately), the loan may be recovered: from the deceased’s estate; or by realising any assets against which the loan is secured, e.g. by selling the family home. A7 Assessing life assurance needs To determine the amount and type of life cover an individual needs, it is necessary to determine: who needs to be insured and whether the policy should be on a joint or single life basis; how much life cover is needed, taking into account existing provision; the term over which cover will be required; (e.g. a need may exist while children are being Chapter 4 educated but that need may end on completion of their full-time education); the type of benefit needed – capital or income; who should receive the benefits; and whether the policy should be in trust and, if so, how it should be arranged. A7A How the policy should be written – own life, joint life or life of another A life assurance policy may be set up in a variety of ways: Own life This may be suitable where the client wishes to benefit themselves (e.g. an endowment policy) or to write the policy in trust (or complete a beneficiary nomination where available) to benefit their dependants. Life of another This may be suitable where the life assured and the insured (or owner) are two different people and the client has an insurable interest on the life of the second party. It may also be used for business assurance to enable a deceased’s interest in a business to be purchased by the surviving business co-owners. For a policy on anyone other than a spouse or civil partner, insurable interest has to be able to be proved, and there is no automatic insurable interest between generations (e.g. child or parent). Joint life first death This may be suitable where there is a need for life cover on the lives of both partners/spouses. One approach is to insure the lives of both individuals on a first death basis. Then, if one dies, the policy will pay out to the survivor and then cease. The cost is more than the premium for insuring one of the insured people, but it is normally less than the cost of two separate policies. The drawback is that the survivor generally needs to have continuing cover. Where this is the case, joint life policies are not suitable. Joint life policies may also create problems if the couple separate later. There is a trend towards offering more new policies on a single life rather than a joint life basis. Joint life second death/joint This may be suitable where a lump sum is needed only after both spouses life last survivor or civil partners have died (e.g. for an IHT liability that will arise after the second death). When the first spouse or civil partner dies, the policy will continue and not pay out any benefit at that time. The policy will pay out only after the death of the second partner. Joint life last survivor policies are cheaper per £ of cover than joint life first death policies. They should normally be effected under trust, so that the sum assured may be received free of IHT and probate. Chapter 4 Life assurance 4/7 Question 4.2 What is usually the best type of protection contract and basis of cover to protect a joint repayment mortgage? A7B The amount and term of cover needed To choose the appropriate policies and the right term and sum assured, it is important to distinguish between different types of needs: Capital and income needs – Capital needs are for repaying the mortgage and any other loans, emergency funds, specific legacies and IHT among other reasons. – Income could be needed to support the family or business after the death of the breadwinner or homemaker and replace income or services. Short- and long-term needs Chapter 4 – A short-term capital need might be the repayment of a five-year loan. – A short-term income need might be the provision for income to support the children’s education and upbringing, which might be of limited duration. – A long-term need might be the income required to support a dependent relative or partner for the rest of their life. Example 4.2 Tom might need: £100,000 decreasing term for 20 years to pay off his repayment mortgage if he dies; £30,000 a year FIB for his children’s upbringing and education over the next twelve years that they are likely to be dependent on him; and £450,000 lump sum cover to provide for an income for his partner, Sally. This would generate an inflation-linked cash flow of, say, £20,000 a year for the rest of her life, using both the capital and income from this invested amount. A7C Taking account of existing insurance Existing policies might already meet some or all of the need, depending on their term and other features. In some cases, they may have to be replaced or ignored if they are not suitable. Insurance cover provided by an employer for its work force is usually made available as part of a pension scheme. Historically, benefits of up to the 'lifetime allowance' and it seems likely that with the lifetime allowance being replaced by a new 'lump sum and death benefit allowance' (LSDBA), it will be tied to this going forward. The level of the LSDBA has been set for 2024/25 at £1,073,100, which is the same as the final level of the lifetime allowance before it was removed. Alternatively, a number of schemes are written as Excepted Group Life Policies (EGLPs) where no such limit applies. In either case, cover may be lost if the client subsequently leaves the company or the company ceases to provide this benefit. If there is a continuation option, the member will have the right to take out a new policy (based on their then age) if they leave the company, and so the value of the cover is greater to them. If the employment is uncertain and the life assurance has no continuation option, it is worth considering whether the cover should be left out of account. Nowadays, few schemes include a life assurance continuation option on leaving service. The increase in the membership of EGLs and slowing down of membership of Registered Group Life policies up to the end of 2023 can be seen in the following table. This trend is expected to continue.  4/8 R05/July 2024 Financial protection Number of members of EGLs and lump sum RGL policies, 2019–2022 Year 2019 2020 2021 2022 2023 RGLP 8,165,324 8,238,202 8,308,371 8,369,502 8,574,500 EGLP 1,547,314 1,423,319 2,023,431 2,135,095 2,509,180 Source: Group Watch 2024, Swiss Re An EGL scheme is one that satisfies the seven conditions set out in ss. 481 and 482 ITTOIA 2005. The conditions are: 1. A capital sum only must be payable on the death of each life assured before a specified age not greater than 75. If there is any exclusion, such as death by suicide, the exclusion must apply to each life assured. 2. The benefit payable on each death must be calculated on the same basis and any limitations applied uniformly. Chapter 4 3. Any surrender value under a policy cannot exceed the premium referable to the unexpired risk under the policy. This rule enables a refund of premium to be made on cancellation. 4. Only the sums and benefits under conditions 1 and 3 can be paid or conferred under the policy. 5. Any benefits may only be paid to, or applied on behalf of, an individual or charity beneficially entitled to them. 6. No benefit can be paid, directly or indirectly, to a life assured, or a person connected to a life assured, on the death of another life assured. 7. Tax avoidance must not be the main purpose or one of the main purposes of the insurance. When unemployment levels are increasing or are expected to increase, the relative value of personal rather than employer-owned life assurance is higher. If an individual fears that they might lose their job at some stage, it makes sense beforehand to find out whether any employer-owned cover has a continuation option and to consider whether additional personally owned cover is needed too. Question 4.3 What would be the main risk in using death-in-service benefits as life assurance to repay a mortgage on death? A7D Choosing suitable types of policy The main factors that determine the choice of insurance are: the purpose for which the policy is being taken out; whether the client wants to have some investment content to the policy; how much the client is prepared or able to spend on the policy; (note, though, that it is usually assumed that clients will want to spend the minimum necessary to buy the appropriate cover); the desirability of guaranteed or flexible premiums. Some clients are very anxious for premiums to be fixed so that they can budget their outgoings predictably ahead of time. Other clients may be prepared to accept that their premiums could go up or down in the future, especially if the starting premium for a flexible premium policy is less than that for the equivalent guaranteed policy. It is essential that clients understand that the premiums may increase with such plans. A7E The need for flexibility One of the problems of having a life assurance policy that lasts for only a specific period is that the best estimates of when it will no longer be needed may turn out to be wrong. A child may be a dependant for longer than expected or the breadwinner partner or spouse may continue earning beyond their originally intended retirement age and their earnings may therefore need to be protected for longer than the original policy term. Chapter 4 Life assurance 4/9 There are several ways to approach this problem: effect a whole life plan; add a convertibility feature to a term assurance policy so that it can be converted to a whole life plan, regardless of the insured person’s state of health; or add a renewability feature to the policy so that cover can be guaranteed to be extended if required. Consider this… If the need is to provide income for a spouse/partner, the need for life cover should decrease when the client retires, provided that the spouse/partner has continuing retirement income. A7F The need to increase insurance levels The combined effect of inflation and earnings increases is that the amount of cover needed Chapter 4 by many individuals will need to be increased from time to time. This can be achieved by: Linking the sum assured to an appropriate index or level of increase. Insurers tend to use either the rate of inflation (measured by RPI or CPI) or average weekly earnings (AWE). Some policies instead offer a fixed annual increase (e.g. 5% a year) or a fixed amount every few years (e.g. 20% every five years). If an indexation increase is not taken up by the client, it is important to note whether that may also stop future increases being offered. If so, the client should reconsider whether to refuse an indexation option, as the long-term cost of that decision could be significant. In times of negative inflation (deflation – as happened in 2015) most insurers will not apply RPI downwards, but advisers should check the wordings of individual insurers. Selecting a policy that includes a guaranteed insurability option under which the sum assured can be increased if certain events take place. These may include marriage, the birth or adoption of a child, career progression, receiving an inheritance, moving home and/or taking on a larger mortgage. Such options must be taken up within a time period specified in the policy, after which that opportunity to increase without further underwriting is lost (although future options will not be affected). Regularly reviewing the client’s need for cover. Due to the changes regarding tax relief on premiums, customers should seek advice before increasing or making any changes to an existing PTA policy. Be aware If deflation happens in the future, index-linked cover could also fall. Care needs to be taken when checking how individual insurance companies have written their terms and conditions, and what those may mean in such circumstances. B Calculation of premiums As with all types of insurance, life assurance policyholders all pay premiums into a common fund from which all claims are paid out. In order for the insurer to be sure it will have enough funds to pay out all the claims, there has to be a relationship between the premium charged and the benefit given under a policy. With general insurance (e.g. motor) it is very hard to predict how many claims will occur and how much they will cost. For example, how many cars will be involved in an accident next year and what will be the cost of damages? However, in life assurance it is much easier to predict the number of claims that is likely within a given year because mortality tables can be used. Mortality tables are the result of the study of mortality (i.e. deaths) over the last couple of hundred years. These can be used to predict with a considerable degree of accuracy how many claims an insurer can expect each year from lives of a given age.  4/10 R05/July 2024 Financial protection A mortality table shows for each age the number of people living and dying at that age. By dividing the number of dying by the number living, the mortality rate can be calculated – in other words, the mortality rate is the chance of dying at a specified age. On the Web The English Life Tables No. 17: 2010 to 2012 were released in September 2015 and are available on the ONS website: bit.ly/2sV5yla. B1 Natural premiums By using mortality tables, the actuary can find out the mortality rate for any given age and, by multiplying this rate by the sum assured, work out the pure (or net) premium for that year, i.e. the premium required just to meet claims in respect of those who die during the year. It is obviously not known which people will die, but if all the people pay the premium for that age for that year’s cover, there should be enough money to pay all those who die, but Chapter 4 leaving nothing over. Thus, next year’s cover will cost a little more as all lives will be a year older. Each subsequent year’s cover will cost more, and so the natural premium will rise each year. In the early years of life assurance, natural premiums were charged. However, this was not very successful as premiums increased steeply in later years, leading people to be unable to afford cover when they needed it most. In addition, the tendency was for the best and fittest lives not to renew their policies. This left a greater percentage of substandard or unfit lives, which led to an increase in the mortality rate over and above that predicted from the mortality tables based on average lives. Premiums would then become inadequate to meet claims, leading to further increases which would only exacerbate the trend. The natural premium system was thus replaced by the level premium system, where the premium for a given sum assured is level throughout the term of the policy. B2 The level premium system The mortality tables show that the risk of death increases with age. If a level premium is charged throughout the duration of a policy, the premium in the early years is higher than is needed to meet the current claims costs. The excess in those early years forms a reserve which can be drawn on to meet the heavier claims in the later years. Thus, there will be money in hand to meet the cost of the greater risk in later years when the premium will be less than is required to cover such risk. The insurance principle requires that policies under which claims occur at an early date are subsidised by policies where claims occur at a later date. Therefore, a single policy cannot exist in isolation, and the unit of calculation is a group of policies. The reserve under a single policy is obtained by calculating the reserve for a large group of similar policies effected at the same time, at the same age and same sum assured. Then the total reserve for the group is divided by the number of policies in force. The reserve for the group at first increases, reaches a peak and then steadily falls to nil. The number of policies steadily decreases as the lives assured die. The reserve for a single policy increases throughout its duration and almost reaches the sum assured if the life assured survives to an advanced age. Table 4.2 illustrates this principle in further detail. Table 4.2: The level premium system First year In any group of insured lives there will be just a few deaths, causing a moderate proportion of the total premiums to be paid out in claims. The balance will go into the reserve to be held against future claims. Second year A slightly higher proportion of the premiums will be needed to pay claims and a slightly lower proportion will go into the reserve, but still increasing the total reserve. Chapter 4 Life assurance 4/11 Table 4.2: The level premium system Following years Each successive year the claims cost will be slightly higher and the amount going into the reserve will be slightly lower. The reserve will continue to grow until the cost of one year’s claims matches the premiums and nothing goes into the reserve. The next year’s claims will slightly exceed the premiums and the difference will come from the reserve. From then on, the reserve will steadily decrease each year as claims exceed premiums increasingly more. Finally, only one life is left in this group and they pay their last premium and die. The last premium plus what is left of the reserve should be enough to pay the claim. Naturally, this will only be so where the mortality assumptions drawn from the mortality tables are matched by the actual experience. As mortality tables are compiled from past statistics and mortality has generally been improving historically, actual mortality experience Chapter 4 has tended to be better than that predicted. Question 4.4 What did the level premium system replace and why? B3 Interest on premiums The pure premium is the premium required just to pay claims for that year or for each year under the level premium system. However, the premium is, in fact, invested as soon as it is paid. Even under the natural premium system, premiums would have been invested for part of the year until they were required to pay claims. This means there would have been a small amount of interest due from that investment. Under the level premium system, the reserve is invested. As this continues for the life of the contract, a substantial amount of interest can be expected. Thus, the pure premium can be reduced somewhat to take account of this fact. The actuary will have to allow for this in calculating the premium and be conservative in their assumptions, because the premium may be payable for many years (e.g. 30 years) at a fixed amount. Interest rates are still relatively low in historical terms but they might not be in five years’ time, let alone in 30 years’ time. The actuary has to ‘take a view’ on how interest rates may fluctuate over an extended period. The effect of the expected interest on the premium is also dependent on the duration of the contract. It will have little effect on a one-year policy, but it will have a much greater effect on a whole life premium for a 20-year-old where they are looking at an average premium-paying term of 54 years. B4 Premium loadings The premium calculated from mortality and interest factors is a net premium, and adjustments or loadings will have to be made to arrive at the actual premium chargeable. The major loading is to cover the expenses of the life office. These would include: salaries of employees; commission paid to the sellers of policies; costs of office buildings used; computer, administration and regulatory costs; and medical fees during underwriting. There is also a safety margin factored in to guard against higher-than-expected mortality and, of course, a profit margin. The actuary has to include all of these factors in the loadings to produce the final premium charged. While premiums are level throughout the contract, expenses are not. Most of the expenses – i.e. the initial commission and underwriting expenses – occur at the start of the policy. Once a policy is on the books the expenses are much lighter. Renewal costs are minimal  4/12 R05/July 2024 Financial protection and claims handling costs are much lower than initial costs. It is therefore not possible to add a percentage loading to the premium to cover all expenses as and when they occur. The heavy initial expenses must be spread out over the whole premium-paying period. It is normal, however, to add a policy charge to the loaded premium to arrive at the final premium payable. This policy charge is in effect a handling fee. B5 Frequency loading Premiums are often calculated on a yearly basis, although in practice most premiums are paid monthly. The monthly premium cannot just be one-twelfth of the yearly premium as this will upset the calculations, which assume that the whole premium will be available for investment at the start of the year. If premiums are to be paid more frequently, the life office will impose a frequency loading, i.e. charge slightly more in total for not paying the entire premium at once. Some offices approach it a different way and quote monthly premiums but give a discount for paying annually in advance. Chapter 4 Example 4.3 A common example would be a 4% loading, so that if the annual premium was £300 then the monthly premium would be £26, i.e.: 300 12 × 1.04 = 26 C Trusts and life assurance A trust is a legal arrangement under which one party (the settlor, or policy owner) creates a legal framework (the trust) to hold assets (the trust property) for third parties (the beneficiaries). The trust is run or managed by trustees. Reinforce The three parties to a trust are the settlor (who sets it up), the trustees (who manage it) and the beneficiaries (who benefit from the trust). C1 Advantages of using trusts for life policies Trusts have the following main advantages when used for life assurance policies: The beneficiaries can receive the policy proceeds quickly in the event of death of the life assured without having to wait for probate to be granted, which could otherwise take months or even years. Where IHT is due, it has to be paid before probate is granted. The legal personal representatives may have to borrow against the value of the deceased’s estate to pay any IHT due. The proceeds of a policy in trust may not be subject to IHT. The payments paid into the trust (i.e. the premiums paid into the policy) could be potentially exempt transfers (PETs) (or chargeable lifetime transfers depending on the type of trust) for IHT purposes, but they should normally fall within one of the IHT exemptions. The main relevant exemptions are: – regular gifts from income that do not affect the donor’s standard of living; – gifts totalling up to £3,000 a year by any one donor. A trust can make certain that the benefits of the policy are distributed according to the settlor’s wishes. This is especially likely where a client does not have a will and so the proceeds of the policy not written in trust would pass into their estate to be distributed under the intestacy rules. Settlors can ensure that the proceeds of their assurance policies go to the right beneficiaries outside the terms of their will. There may be better protection against creditors if the settlor goes bankrupt. You should be aware that, as an alternative to trusts, there are providers which allow the beneficiary or beneficiaries to be nominated on the policy. The terms of the nomination and changes to it form part of the contract with the insurer, avoiding the need for probate and Chapter 4 Life assurance 4/13 should be written to ensure any death benefit does not form part of the policyholder’s estate for IHT. Students should watch out for further developments. Question 4.5 Why could a policy written in trust potentially help executors to a will if they are also the beneficiaries? C2 Married Women’s Property Act trusts At one time, trusts would be set up using a simple absolute trust, such as that prescribed under the Married Women’s Property Act 1882 (MWPA), or its Scottish or Northern Irish equivalent. MWPA trusts have: the advantage of relative simplicity; and the greatest protection against creditors; but Chapter 4 lack of flexibility about beneficiaries – who are limited to children and spouse. Policies can be placed into MWPA trusts only at outset and not at a later point. Generally, simple absolute trusts are now recommended rather than MWPA type trusts. C3 Flexible and discretionary trusts Most protection policies written prior to 2006 used a flexible interest in possession trust. Such flexible trusts have a settlor(s) of the trust assets, trustees and beneficiaries, but the settlor specifies a list of potential beneficiaries and nominates one or more to have an interest in possession. This means that if no other action is taken, the beneficiary (or beneficiaries) will receive the trust proceeds. However, ‘modernisation’ of trust tax law introduced in Finance Act 2006 brought the IHT treatment of new interest in possession trusts broadly into line with discretionary trusts. This means that assets put into trust could be regarded as creating chargeable lifetime transfers (CLTs). In addition, the trust could be subject to a periodic charge every ten years (based on its value – usually any surrender value unless the individual is close to death) and on payments made out of the trust. As a result of these changes, discretionary trusts are now more likely to be used, as both have the same tax treatment so flexible interest in possession trusts no longer carry any tax advantages. Simple absolute trusts can also be used, but still have the disadvantage that they cannot be adapted to changing needs. (The transfer of this type of trust is still a potentially exempt transfer – PET.) Many thousands of flexible interest in possession trusts still exist, so it is useful to understand how they work. A flexible trust can be thought of in terms of two boxes (see Figure 4.1). Box A contains all possible beneficiaries and should be drawn as widely as possible. Box B contains the beneficiaries the settlor would wish to benefit if they were to die today (those with an interest in possession). Expert advice should be sought about the tax implications of such trusts before making any changes to them. Figure 4.1: Flexible interest in possession trust Box A Box B All the possible beneficiaries The default beneficiaries – who would benefit today, unless an Example: ‘my wife, children and appointment is made from the remoter issue’ Box A beneficiaries The settlor Example: ‘my son John and my daughter Joan in equal shares’ A full discretionary trust simply allows the trustees to decide who (from the potential beneficiaries) should benefit from the trust proceeds (the policy) without restriction. No  4/14 R05/July 2024 Financial protection potential beneficiary has an interest in the trust’s capital or income until an appointment is made by the trustees. In other words, using the above diagram, a discretionary trust only has 'box A'. C4 Choosing trustees Trustees should have an understanding of the settlor’s preferences and wishes, and should be sensible, honest and reliable. It is wise to appoint trustees who are younger than the settlor and are therefore likely to outlive them. In general, settlors should also appoint themselves as a trustee to try to make sure their wishes are followed for at least as long as they still are alive. Financial advisers should not normally be appointed as trustees, because of the potential personal liability for their decisions (which is most unlikely to be covered by their professional indemnity insurance) and the potential conflicts of interest that may be present. To help the trustees to appoint the right beneficiaries on a settlor’s death (where that is Chapter 4 possible under the trust), settlors should leave a letter providing guidance to the trustees about their wishes after their death. Trustees may freely resign but it can be difficult to remove them. Unless there are specific trust provisions giving the settlor or specified individual(s) the power to dismiss trustees, forcing them out against their wishes would require an application to a court with considerable costs and uncertainties. C5 Trust wordings In most instances, setting up a trust is simple and most insurers offer their own trust wordings and forms for the client’s legal advisers to consider. Often a suitable trust wording is included as part of the insurer’s full application form. Where the settlor has particularly complex or unusual requirements, instructing a solicitor to prepare the trust document may be the only option. C6 What policies can be written in trust? The following policies can be written in trust: any existing life assurance policy not already in trust or assigned to a third party; any new policy, unless it is to be assigned to a third party; and any life assurance written as part of a pension scheme, usually under a master discretionary trust. Remember, though, that an MWPA trust can only be used at outset. C7 Trust registration When an individual is creating a trust, they may need to register the trust with HMRC. The EU’s Fifth Anti-Money Laundering Directive (AMLD 5), which came into force on 10 January 2020, includes a section on the new Trust Registration Service (TRS), which expands the number and type of trusts that need to report. The TRS, which came into effect in September 2020, provides a single point of access for trustees and their agents to record information. The information required depends on whether the trust is taxable or non-taxable. Trusts of life policies are, subject to certain conditions, excluded from registration as express trusts during the lifetime of the life or lives assured. To qualify as exempt, the policy – whether whole life or term must only pay out: on the death, terminal, or critical illness or permanent or temporary disablement of the person assured; or to meet the cost of healthcare services provided to the person assured. Where a trust holds any other policy not meeting the above conditions or any other non- insurance assets, the exclusion doesn’t apply. One slight complicating factor is that a policy with a surrender value could cause the trust to fall within the registration rules if it is surrendered and the cash held in the trust. Chapter 4 Life assurance 4/15 Reinforce Trusts holding bonds will fall for registration where withdrawals are taken from the bond. This is because HMRC considers full or part surrenders to represent a pay-out that doesn’t fall within the above definitions. Where a policy that meets the exemptions pays out on death, the trustees have a two-year window from the date of death in which to distribute the funds to the beneficiaries before registration becomes required. Where the payment occurs other than on death (for example terminal illness or critical illness) the trustees would be well advised to have the policy proceeds paid directly to the beneficiary, since receipt of proceeds by the trustees would bring the trust under the registration requirement. Be aware Chapter 4 Where a life policy includes critical illness cover, generally a split trust would be used. This separates the life and critical illness elements, recognising that in the event of suffering a critical illness, the settlor is likely to want the benefits themselves rather than have them paid to a third party. On the Web You can find more details about registering a trust (and complete the registration) here: www.gov.uk/guidance/register-a-trust-as-a-trustee. D Underwriting Different types of protection insurance are underwritten in different ways, with non-standard risks also treated differently by product type. D1 Underwriting process Most individual policies and small group schemes are subject to a medical underwriting process whereby the insured completes an application form detailing their: personal details including age; current state of health; medical history; occupation and any hazardous pursuits; and lifestyle. Some short-term policies may apply a moratorium rather than full medical underwriting. A typical moratorium excludes any condition for which the applicant has received treatment for in the past five years. These conditions will remain excluded for two years if no further treatment is required. Should further treatment or check-ups take place in that period, the exclusion will run for two years after any subsequent treatment or check-up. Alternatively, a short-term policy may simply exclude all pre-existing conditions. Larger schemes may have little or no individual underwriting. In some cases, an insurer will accept a risk and apply no worse terms or continuing personal medical exclusions (CPME). In effect, the underwriter adopts the underwriting decision on an individual within a scheme applied by a previous insurer from whom the risk is now being transferred. CPME terms may be offered automatically or only if the insured can answer ‘Yes’ to, say, three medical questions. Such arrangements are typically offered when an insurer wants to encourage customers to switch from another insurer but where the customer is unlikely to do so if full new underwriting applies. Where free cover levels are applied to a group scheme, it is only an individual’s benefit above that level which is underwritten. That additional cover is then accepted at standard rates, subject to a loading or exclusion, or declined. Group critical illness cover is normally subject to a moratorium excluding pre-existing conditions as described above.  4/16 R05/July 2024 Financial protection D2 Other underwriting evidence Along with the information recorded on the application form, an underwriter may also require the following: GP report – this is a written report from the patient’s own GP and does not involve a medical examination or interview. Data subject access requests (DSARs) – individuals have a legal right to request a copy of information about them held on computer or paper records, including medical records. This is known as a data subject access request (DSAR). Some life offices have used DSARs as a way of obtaining information quickly. However, this practice has currently ceased following concerns expressed by the Information Commissioner’s Office about the practice of data requests in insurance. This resulted in the industry’s implementation of a voluntary decision not to continue to use DSARs. Paramedical – this is a short medical questionnaire plus basic tests (such as measuring height, weight and blood pressure, usually undertaken by a nurse). Chapter 4 Medical examination – this is performed by the patient’s own GP or one nominated by the insurer. Additional health questionnaire – this could be requested for specific conditions (e.g. on diabetes). Occupation or pursuits questionnaire – this could be requested for specific pursuits (e.g. on private flying). Health screening – this would include ‘non-invasive’ tests such as saliva swabs, hair samples and urine tests. Such tests can provide underwriters with information about an applicant’s health and may be more reliable and cheaper than obtaining copies of medical records. Such tests can be carried out at pharmacists or by applicants supplying samples by post. Tele-underwriting has become increasingly popular for protection products as it allows shorter application forms, faster underwriting (often with less medical evidence required from doctors) and can also result in less non-disclosure. Two types exist – ‘big T tele-underwriting’ (where few questions are asked on the application form and are instead asked over the phone) and ‘little t underwriting’ (where only supplementary questions are asked, but most questions are still asked on the application form). Typically, the applicant will be phoned at an agreed time and asked medical or other questions. As the underwriter can select which questions to ask, based on answers given, this can be a faster process than completing a full medical application form (some of which now run to over 30 pages). Sometimes, the underwriter asks questions to supplement answers already given on an application, while in other cases tele-underwriting is used instead of asking medical questions on the application form. Where additional medical information is required, this is usually paid for by the insurer. Tele-underwriting may also be referred to as tele-interviewing and may be undertaken by non-underwriters, e.g. qualified nurses. Consider this… Underwriting continues to evolve, with some providers now offering ‘instant cover’ with automated underwriting allowing a significant proportion of applicants to be covered immediately. The provider won’t, for most people, seek either to make underwriting referrals or seek further medical evidence. The use of advanced technology in processes like this is likely to evolve further in coming years. Chapter 4 Life assurance 4/17 D2A Data protection legislation 'Data protection legislation' is a generic term for the UK General Data Protection Regulation (UK GDPR) and the Data Protection Act 2018 (DPA 2018). They both govern the processing of personal data in the UK. DPA 2018 mirrors much of what is contained in the UK GDPR and makes some modifications. For example, parts of the UK GDPR do not apply to processing by law enforcement authorities. In addition, from age 13 parental consent is not needed to process data online. Who does the legislation apply to? It applies to all persons in the UK who process personal data other than for domestic purposes. It gives data subjects rights and places obligations on data controllers and data processors. For example, both controllers and processors are required to ensure that their data processing is secure. Significant fines have been imposed for security breaches, and there Chapter 4 have been a number of out of court settlements of claims for damages from affected data subjects who have banded together to obtain group litigation orders. What information does the legislation apply to? It applies to personal data. This is any information from which a living individual can be identified, either directly or indirectly. The information is not limited to names and identification numbers or to photographs or addresses. A large shoe size may be someone's personal data if there is an individual in an organisation known to have big feet. An IP address may be personal data. It is important to remember that information may become personal data if a person becomes identifiable when data is combined with other information that subsequently comes into the possession of an organisation. Personal data that has been effectively anonymised is no longer personal data and falls outside the data protection legislation. It is well known that the legislation governs the processing of electronic data (known as automated processing). It is less well known that it also governs the processing of personal data in a manual filing system. For example, the failure to shred documents may be a data security breach in some circumstances. Leaving a file in a taxi is a well-known example of a security breach. Sensitive personal data The legislation creates special categories of personal data so as to provide additional safeguards for sensitive information. The categories are: race or ethnic origin; political opinions; religious or philosophical beliefs; trade union membership; genetic data; biometrics (where used for ID purposes); health information; information about sex life; and sexual orientation.  4/18 R05/July 2024 Financial protection Data Protection Principles Personal data must be processed in accordance with the seven Data Protection Principles. They are: 1. Lawfulness, fairness and transparency. There must be a lawful basis for processing personal data. Any unlawfulness, whether it is a breach of the data protection legislation or not, will be a breach of this principle. Data should be processed fairly which means it should be processed in ways that people would reasonably expect. Organisations must be clear, open and honest with individuals about the personal data they are processing and why and how they are doing it. This may be achieved with the publication of a privacy notice. 2. Purpose limitation. Data should not be processed for reasons other than those for which the information was obtained in the first place. For example, personal Chapter 4 information provided when a person registers with an online retailer should not be provided to third parties without the person's consent. 3. Data minimisation. Organisations must use the minimum amount of data required to fulfil their purposes. They must process no more information than they need. For example, is a date of birth really necessary? 4. Accuracy. Data should be accurate and kept up to date. This includes granular detail such as addresses. 5. Storage limitation. Information must be kept no longer than is necessary to achieve its purpose. For example, is there a justification for keeping an entire file for six years? Can some sections of it be destroyed before then? 6. Integrity and confidentiality. Organisations must ensure that they have appropriate security measures in place to protect the data they hold. 7. Accountability. Organisations must take responsibility for what they do with personal data and how they comply with the other principles. They should keep records to demonstrate compliance. Providing accessible information to individuals about the use of their personal information is a key element of compliance; most organisations do this via a Privacy Notice, which can usually be found on their website. Lawful processing The processing of personal data is unlawful unless one of the legal bases set out in the legislation applies. This means that organisations need to identify a legal basis for the processing. 1. Consent Consent must be freely given, specific, informed, and an unambiguous indication of the individual's wishes. It must be quite distinct from other terms and conditions; it must be given for an identified purpose; and there must be some form of positive opt-in. It cannot be inferred from silence, pre-ticked boxes or inactivity. Organisations need to make it as simple for people to withdraw consent as it was to give it. It is advisable to find an alternative legal basis where possible. 2. Contract The processing is necessary to give effect to a contract with an individual, or because they have asked the organisation to take specific steps before entering a contract. 3. Legal obligation The processing is necessary for a firm to comply with the law (other than contractual obligations). 4. Vital interests The processing is necessary to protect someone's life. This basis is limited in scope and generally only applies to matters of life or death. 5. Public task Public authorities rely on this basis where they need to process personal data 'in the exercise of official authority' or perform a task in the public interest. Organisations in the Chapter 4 Life assurance 4/19 private sector may also rely on this basis where they are exercising official authority or carrying out tasks in the public interest. 6. Legitimate interests The processing is necessary for an organisation's legitimate interests or the legitimate interests of a third party, unless there is a good reason to protect the individual's personal data which overrides those legitimate interests. Legitimate interests may be commercial interests and businesses often rely on this basis. If they do, they must identify the legitimate interest and ensure they are processing the personal data for that purpose. They must also check that the processing is necessary to achieve that purpose. Finally, it is important to carry out a balancing test to assess whether the interests of the individual and their right to privacy override the legitimate interests of the organisation. Rights Individuals have the following legal rights under the legislation: Chapter 4 Right to be informed Individuals have the right to be informed about the collection and use of their personal data. The information provided must include the purposes for processing the personal data, the retention period and who it will be shared with. Information must be provided to individuals at the time the personal data is collected from them. Right of access Individuals have the right to find out if an organisation is using or storing their personal data. They also have a right to receive a copy of their personal information. They can exercise this right by submitting a subject access request (SAR). An SAR can be made verbally or in writing. A company should respond to a SAR within one month; it can take an additional two months if the request is complex. This right corresponds to the transparency principle which organisations are required to adopt. Right to rectification Individuals have the right to have inaccurate personal data rectified or completed if it is incomplete. An individual can make a request for rectification verbally or in writing. A company has one month to respond. This right corresponds to the accuracy principle. Right to erasure Individuals have the right to have their personal data erased, also known as 'the right to be forgotten'. The right is not absolute and only applies in certain circumstances. An individual can make a request for erasure verbally or in writing. The organisation has one month to respond. Right to restrict processing Individuals have the right to request the restriction or suppression of their personal data. When processing is restricted, an organisation is permitted to store the personal data, but not use it. Right to data portability Individuals have the right to transfer personal data from the IT system of one organisation directly to another in a safe and secure way – when changing banks, for example. This right allows data subjects to use applications or services to find a better deal. Right to object Individuals have the right to object to the processing of their personal data in certain circumstances. They have an absolute right to stop their data being used for direct marketing. Organisations may be able to continue processing personal data despite an objection if they can establish a compelling reason for doing so. An individual can make an objection either verbally or in writing. There is one calendar month to respond.  4/20 R05/July 2024 Financial protection Rights in relation to An individual has the right not to be subject to a decision based solely on automated decision making automated processing, including profiling. and profiling Processing is 'automated' where it is carried out without human intervention and where it produces legal effects or significantly affects the individual. Individuals must be able to obtain human intervention, including an explanation of the decision, and be able to challenge it. Accountability and governance Data controllers are required to demonstrate compliance with the data protection legislation. They are required to have certain policies and procedures in place, including a risk register where data breaches are entered. Organisations need to maintain documentation to evidence their processing activities and to implement appropriate security measures. Where personal data is sensitive or high risk a data protection impact assessment will be advisable. They are also need to ensure there are written agreements in place between them and any processors they engage. Certain terms are mandatory in these agreements. The appointment of a data protection officer may be Chapter 4 recommended. International data transfers To ensure that the level of protection afforded to individuals by the UK GDPR is not undermined, the data protection legislation governs the transfer of personal data from the UK outside the EU to third countries or international organisations. Breach notification Organisations must report data breaches to the Information Commissioner's Office (ICO) where there is likely to be a risk to data subjects. If the risk is high, the data subjects must be alerted to the breach. Be aware For the most serious data breaches, the ICO may levy fines of up to £17.5m or 4% of annual global turnover if higher. On the Web ICO: https://ico.org.uk/ D3 Offering terms Based on the information obtained through the application process the underwriter will offer standard terms or apply special terms. In some cases, the underwriter will first refer more complex or larger cases to their chief medical officer (CMO) or reinsurer(s) before making a decision. For whole life and term assurance policies, the underwriter may apply a premium loading as an addition to premium, extra mortality rating or an age rating. With extra mortality rating, the additional cost is expressed as a percentage increase in the risk premium. An age rating treats the insured as though they were x years older. Policies may also be declined or postponed, or specific conditions may be excluded. Liens or reduced sums assured are not usually appropriate for protection policies because people generally need a particular amount of cover. Increasingly, long-term insurance policies no longer offer waiver of premium or the option to increase cover at standard rates without evidence of health. Be aware Full medical underwriting, leading to a higher premium being charged for higher risks, is most usually found in long-term policies. Short-term policies usually simply exclude pre-existing conditions. Traditionally, insurance was provided on the principle of utmost good faith (uberrima fides), meaning that insurers relied on the honesty of their customers in deciding whether to accept an insurance application. Chapter 4 Life assurance 4/21 The onus was on an applicant to answer all questions asked, e.g. on an application form, honestly, truthfully and completely. The general rule was: if in doubt as to the relevance of any information, it should be declared anyway. On some types of policy (e.g. critical illness cover), a high number of claims were rejected because of non-disclosure of some material fact. In response to concerns about that situation, an Association of British Insurers (ABI) code of conduct requires insurers to pay greater attention to the clarity of their application forms, and life insurers often now ask considerably more detailed questions, and more of them than in the past. The Financial Ombudsman Service (FOS) also requires insurers not to rely on the very strict interpretation of the rule of utmost good faith on individual policies but, for example, to pay in the event of innocent misrepresentation. This approach now has a statutory basis under the Consumer Insurance (Disclosure and Representations) Act 2012. D4 Non-disclosure and the fair treatment of customers Under the Consumer Insurance (Disclosure and Representations) Act 2012, if insurers want Chapter 4 to know something they must ask. In return, consumers must still tell the truth, but a minor infringement will no longer invalidate the contract. How such infringements are treated depends on the nature of the non-disclosure: Reasonable – the customer has acted honestly and reasonably but has still failed to disclose all material facts. In such cases, the claim will be paid in full. Careless – the customer failed to take reasonable care and should have realised that the information given was incorrect. In such cases, a proportionate remedy will apply. Deliberate or reckless – on the balance of probabilities, the customer knew, or must have known, that the information was both incorrect and relevant to the insurer. In such cases the insurer can void the policy from inception. In each case, the remedy only applies where full disclosure would have resulted in a different underwriting outcome. Insurers must also only ask for appropriate medical information when a claim is made. They may not ‘trawl’ a customer’s medical records in the hope of uncovering medical non-disclosure. The Consumer Insurance (Disclosure and Representations) Act 2012 also raises the issue of whether the person arranging the insurance is the agent of the consumer or the insurer. If an agent of the consumer makes a deliberate or reckless non-disclosure without the consumer’s knowledge, the insurer can still avoid the policy. However, if the person arranging the policy is the insurer’s agent, the insurer is bound by its actions and cannot avoid the policy. Of course, in the former case the policyholder would have the right to pursue the adviser for damages as a result of this reckless action. It is important for intermediaries to note that they should never be party to any deliberate non-disclosure. To do so could be a criminal offence as well as a breach of industry regulatory rules. Question 4.6 A customer fails to mention a condition that they were aware of, but thought was not relevant to the insurer. The proposal form asked a clear question about the condition. The customer was receiving ongoing treatment for the condition and had been warned by their GP about the severity of the condition on more than one occasion. What sort of non-disclosure does that constitute? Insurance Act 2015 The Insurance Act 2015 came into force in August 2016. It introduced changes to the duty of disclosure in commercial insurance contracts and insurers’ remedies for fraudulent claims. The Act means employers taking out group insurance policies have a duty to make a fair presentation of the risk. The Act changed the remedies available to insurers for non-disclosure and misrepresentation. Except where the breach of the duty to make a fair presentation is deliberate or reckless, proportionate remedies (based on what the insurer would have done if full disclosure had been made) will apply.  4/22 R05/July 2024 Financial protection E Terminal illness benefit Terminal illness benefit (TIB), sometimes known as terminal illness cover, is a rider or additional benefit added to a term or whole life policy. Unlike critical illness cover, it is not available as a separate policy and is not paid in addition to the death benefit. Some offices offer it free on all policies or on sums assured over a certain limit. Otherwise, it can be added for a small extra premium. For most types of protection cover it is probably worth having, particularly since it is often free. TIB provides that the sum assured is payable if the life assured is diagnosed as suffering from an advanced or rapidly progressing, incurable and disabling terminal illness where, in the opinion of the life office, the life expectancy is less than twelve months. The terminal illness payment is, in effect, an accelerated death benefit. Once the payment has been made, the policy comes to an end. Terminal illness cover can often be added to term assurance, but will not usually apply in the Chapter 4 last 12 or 18 months of the contract. This is because the life office would incur the risk of paying a claim on diagnosis of terminal illness when there is a reasonable possibility that the life assured will survive beyond the end of the policy term, when no claim would be payable. However, if a terminal illness payment is made and the life assured lives beyond the expiry date, the payment will not have to be refunded to the life office. Be aware If a policy with terminal illness cover is written under trust, the life assured cannot receive any terminal illness claim as the money would belong to the beneficiaries. Because of this, a split trust may be appropriate in some situations, but that could give rise to additional IHT if the proceeds remain in the estate when the life assured subsequently dies. The idea underlying the cover is that if a terminal illness is diagnosed, the life assured will receive a large payment and be able to spend or save it in whatever way they choose. There is no requirement to wait for the life assured to die. However, counterarguments might be that the life assured may be too unwell to take advantage of the benefits that the payment may bring and that paying the benefit to the terminally ill individual frustrates the main purpose of the contract which is to provide a sum on death for the benefit of dependants. A terminal illness payment is not a chargeable event and so there is no income tax liability. As there is no transfer of value there can also be no IHT liability, but any balance of the payment remaining on the death of the recipient, if still in their estate, would form part of that estate for IHT purposes. F Assignments An assignment is a transfer of ownership from one person to another. This frequently happens with life policies, so knowledge of the legal principles involved is necessary when dealing with claims or surrenders. An assignment may be temporary or permanent, and can confer an absolute or limited interest. The various types of assignment are as follows: Absolute assignments – these include assignments by way of sale and by gift; Assignments by way of mortgage; Assignments by operation of law on bankruptcy; and Assignments to trustees. F1 Joint ownership Assignments can be made to a single assignee or joint assignees. If an assignment is made to two or more people, attention must be given as to how the joint assignees hold the property. There are two basic types of joint ownership in English law: joint tenancy and tenancy in common. Chapter 4 Life assurance 4/23 F1A Joint tenancy Under a joint tenancy, if one joint tenant dies their interest passes automatically to the survivor(s). On the death of the last survivor, the property passes to their legal personal representatives. Property held under a joint tenancy can be disposed of by will only by the last surviving joint tenant. Many joint life first death policies are held under a joint tenancy by the two lives assured. This means that when one dies, the sum assured is payable to the other as the surviving joint tenant. F1B Tenancy in common Unlike a joint tenancy, on the death of a tenant in common, their beneficial interest passes to their estate and can be disposed of by will. It would be rare for a joint life first death policy to be held under a tenancy in common by the two lives assured. However, it would mean that the sum assured would be payable partly to the survivor, and partly to the estate of the deceased, in line with the policyholders’ Chapter 4 ownership shares. Question 4.7 What is the difference between a joint tenancy and a tenancy in common? F2 Policies of Assurance Act 1867 The Policies of Assurance Act 1867 regulates the assignment of life policies. It provides that any person becoming entitled by assignment to a life policy has the legal power to sue in their own name to recover the monies payable. Therefore, an assignee can claim against the life office in their own name without involving the assignor. An assignee can thus make a claim on the assigned policy, subject to production of the policy document and deed of assignment. F2A Notice Section 3 of the Act details the principle of notice, specifying that ‘no assignment shall confer on the assignee [or their representative] … any right to sue for the amount of such policy … until a written notice of the date and purport of such assignment shall have been given to the assurance company’. The section goes on to state that ‘the date on which such notice shall be received [by the assurer] shall regulate the priority of all claims under any assignment, and that a payment bona fide made in respect of any policy by an assurance company before the date when such notice was received is valid against the assignee’. The Act refers to ‘assignment’. It does not refer to ‘absolute assignment’ or ‘assignment for value’ – it therefore covers all forms of assignment except assignment by operation of law, i.e. in bankruptcy proceedings. Therefore, an assignee who gives notice to the assurers can claim precedence over all other interests where notice has not been given, even if the date of their assignment is later than that of the other interests. The effect of the section can be summarised as ‘priority of notice regulates priority of claim’. However, priority is a broad concept and there several exceptions to this rule. F2B Importance of notice Due to the priority rule, it is vital for an assignee to give notice of their assignment to the assurer as soon as possible. For this reason, s. 4 of the Act requires every assurance company to state on every policy the address of its principal place of business at which notice of assignment can be given. Furthermore, by s. 6, the assurance company must, on request, acknowledge receipt in writing of any notice of assignment. Such acknowledgment is then conclusive evidence of receipt of the notice. An insurer must therefore have a system of recording notices of assignment in policy records in order to comply with the Act and to be able to make any payments to the correct person. The means used to record notices vary, as some offices use a record card system but more now use a computerised system. Whatever system is used must be capable of recording the date that notice was received and the date of the deed, together with the parties to the deed.  4/24 R05/July 2024 Financial protection The assurer must acknowledge every notice given, no matter what type of interest it may concern. Sometimes the deed itself may be produced, and this is notice to the office of its contents. Also, in the course of correspondence about one policy, a deed may be produced which refers to another of the company’s policies. Note should be made of this on the record of the other policy, as this is implied notice to the company. Be aware Acknowledging a notice of assignment is not the same as receiving proof of title. The notice itself does not transfer title – only the deed of assignment does this – and there could always be an error on the notice. For this reason, many life offices state on the acknowledgement that no opinion is expressed as to the validity of the title. Proof of title is not generally called for until payment is required under the policy. If an assignee requests confirmation of their title, the office could suggest that they consult their solicitor. F2C Constructive notice Chapter 4 Notice is usually express, although it can be implied. Notice can also be implied from correspondence on an office’s files, even if no formal notice has been served. Another form of notice is constructive notice. This applies whenever an assurer might have reason to suspect that an assignment has taken place even though no express or implied notice has been received. Example 4.4 If an assurer knows that A is paying the premiums on B’s policy, this does not necessarily mean that this policy has been assigned to A. However, the insurer might be wise to check with A before making any payment to B. Otherwise, A could allege that the insurer had constructive notice of their interest and try to force a second payment to them. The attempt might not succeed but would involve the office in an unwelcome dispute. A similar situation exists with lost policies. Non-production of a policy at the time of payment may suggest that the policy has been assigned and is in the hands of an assignee who has omitted to give notice. The assurer should therefore make some investigations in order to rebut any allegation of constructive notice. A statutory declaration coupled with an indemnity may be required before payment can be made. F2D Form of notice Notice does not need to be given in any particular form. This was decided in Newman v. Newman (1885), where the first assignee served notice informally and the second assignee gave formal notice under the Act. It was held that the second assignee did not gain priority merely because their notice followed the statutory form. Due to the possibility of implied and constructive notice, a life office must take care in keeping its records and note all interests it becomes aware of. For example, if an office receives a request for a surrender value quotation from a person who says they are holding a policy but is someone other than the assured, this should be recorded as it is implied notice and express notice may not be given subsequently. F2E Effect of notice The objective of the Policies of Assurance Act 1867 was to simplify actions against a life office and make it easier for the office to settle claims. The Act does not enable a person who has lent money on a second charge and who has notice of the first charge to take priority over that first charge by giving notice to the life office. If, when they take an assignment, an assignee has knowledge of some existing interest they cannot gain priority over it just by giving notice. The Act concerns only the priority of the right to sue and claim against the life office. It does not affect the equitable title to the policy monies. Therefore, although an assignee in the circumstances set out in the previous paragraph may gain priority of claim against the life office by virtue of priority of notice, they cannot gain priority over the first assignee in Chapter 4 Life assurance 4/25 the ultimate distribution of the policy monies. This principle was confirmed by the case of Newman v. Newman (1885), mentioned earlier. It should also be noted that anyone who advances money on the security of a life policy not produced to them and which is held by an earlier mortgagee has constructive notice of that earlier mortgage. This is similar to the principle that non-production of a policy to a life office at the time of a claim can be constructive notice of a third party’s interest. To sum up, the effect of giving notice is: to give the assignee the right to sue in their own name; to bind the insurers so that if they pay another claimant, they will be held responsible; to gain priority of claim over earlier assignees who have failed to give notice; and to preserve priority of claim over subsequent assignees. F2F Other provisions of the Act Section 5 provides that an assignment can be made by either endorsement on the policy Chapter 4 or a separate instrument, subject to due stamping. A specimen wording is set out in the schedule to the Act. The Act refers to assignme