This article outlines the tax treatment for key employee cover and partnership or shareholder cover.
Tax treatment for key employee cover
Premiums paid by a company for cover on key employees may be treated as a business expense, which effectively means that corporation tax relief is available for the company. This treatment is typically available where; the policy is short-term (say for a fixed term of five years or less), the policy is to replace loss of profits or to cover the cost of replacing the employee only, and where the key person’s relationship with the business is employee/employer.
If the company wishes to use this tax treatment, it is recommended that the directors write to their company’s local inspector of taxes to get advice prior to setting up the cover, as all the facts in the particular case will be considered. If this treatment is not available no tax relief is allowed on the premiums.
On a valid claim, if the value is a trading receipt, which is likely to be the case if it is to replace a loss of profits, it will typically be subject to corporation tax. If, on a valid claim, the value is not trading receipt it will typically not be subject to corporation tax.
In February 2008, the Government brought life assurance policies which are company-owned under the ‘loan relationship’ rules. This can be relevant to policies with a surrender value or investment element and means that any increase in value in the company’s accounts of such policies in excess of the premiums paid will be subject to corporation tax each year.
This can be a complex area and liaison between the financial adviser and company’s accountant is recommended.
Tax treatment of partnership or shareholder protection
There is no tax relief on the premiums. Typically the premiums are paid by the director/business owner, but even if the business pays the premiums they are treated as drawings or directors’ remuneration and the business owner will be taxed as if he or she had paid them and the premiums are not classed as a business expense.
Provided the plans are written in a suitable trust for the other partners or shareholders and suitable cost sharing arrangements have been made, there will be no inheritance tax (IHT) implications prior to a claim. Care should be taken if the partners or shareholders are related.
By the using of a suitable arrangement in combination with the trust, IHT can be avoided or significantly reduced. There is no tax liability on the proceeds of the plan for the business, as the proceeds do not belong to it.
This can be a complex area and liaison between the financial adviser and business owner’s solicitor can be a wise move.