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Has an endowment policy that had unpaid premiums become non-qualifying?
A 25-year endowment policy was taken out in 1990 with a life assurance company (Company A). Premiums were paid by cheque on receipt of a quarterly invoice. The company stopped issuing quarterly invoices from December 2008 and premiums were unpaid until the matter was brought to our attention in June 2010, at which time all premiums and arrears were paid up to date.
Company A has stated that, under the terms of the policy, they were able to allow the policy to continue for a period of time by using some of the policy value to pay the unpaid premiums. They also admit that, due to their error, they did not lapse the policy after 12 months and that cover was allowed to continue so that there was no loss of life cover.
Company A also states that, under HMRC rules, the policy is now treated as non-qualifying for tax purposes and will result in a tax liability on chargeable gains on maturity.
I should be grateful to receive the views of Taxation readers on whether HMRC would still consider that the policy remains qualifying.
Query 18,672– Old Cardiffian.
Reply by ANA
A qualifying insurance policy is a life insurance policy whose terms meet a complex set of conditions. These include rules about the policy term, regularity and level of premiums paid, and the minimum sum assured. The detailed rules are set out in TA 1988, Sch 15. A qualifying policy does not normally give rise to chargeable events subject to income tax under ITTOIA 2005, Part 4 Ch 9.
One condition in Sch 15, para 1(2)(b) requires that, under the terms of the policy, the premium payable for any period of 12 months must not be more than twice that payable in any other period of 12 months. This means that breaks in paying premiums cannot normally last for more than six months. In this case, the premiums were not paid for 18 months so the policy is no longer a qualifying policy. Old Cardiffian should contact the insurance company to confirm this is the basis for its view.
As a practical matter, HMRC will normally accept an insurance company’s determination as to whether a policy is qualifying (see the comments in their Insurance Policyholder Taxation Manual at IPTM2020), so it may be difficult for him to take a different view.
Normally, if premiums are unpaid the policy would lapse or be surrendered for cash. If the problem was an error on behalf of the insurance company, the policyholder may have a claim against the company if a tax liability arises as a result. However, if he had been making quarterly payments for 18 years it is perhaps reasonable to expect him to have contacted the company if invoices were not being received. If he wishes to pursue a claim against the company, he should take legal advice from a solicitor with experience of negligence claims.
Reply by Putin
Based on the information given in HMRC’s Insurance Policyholder Taxation Manual, they would consider that the policy is no longer qualifying.
At section IPTM8065 of the manual, HMRC state that a policy would be disqualified if it were to continue in force after a maximum period of 12 months from the first unpaid premium because the “twice-times rule” would be contravened.
HMRC state that the above rule means that the premium payable for any period of 12 months must not be more than twice that payable in any other 12-month period.
HMRC confirm at IPTM8070 that if a life assurance company maintains a policy by nominally advancing a “loan” against the eventual surrender value for the unpaid premiums, this amounts to non-payment of premiums and the arrangement cannot continue after 12 months from the due date of the first unpaid premium. At that point, the policy must lapse, be converted to paid-up or surrendered for cash.
A lapsed or paid-up policy can be reinstated if this is done within 13 months of the due date of the first unpaid premium and the policyholder has paid all the missing premiums. If those conditions are met, the policy will be treated as if it has run without interruption and should not be disqualified. However, this approach applies only if the policy lapses or is made paid-up under its terms through a non-forfeiture clause. Nor will it be extended beyond the 13th month under any circumstances (IPTM8065).
Unfortunately, the policy with Company A is disqualified because it was not reinstated in time and is in breach of the twice-times rule.
It is noted that Company A should have lapsed the policy after 12 months of unpaid premiums and that it admits its error. A claim for compensation against the company for the resultant tax liability should be given careful consideration.
Editorial Note
The reply by Putin mentions HMRC’s Insurance Policyholder Taxation Manual at IPTM8065 (“Non-payment of premiums: action by insurers and reinstatement of policies”). Under “Cessation of regular premium payments”, HMRC as follows.
“Where regular premiums that are due under the policy are not paid, the insurer would ordinarily take some action to respond to the non-payment...
“What action is taken is up to the insurer, and will be reflected in the terms of the policy under what is commonly known as a ‘non-forfeiture clause’.
“Within 12 months of the due date of the first unpaid premium the policy will:
- lapse, that is, the insurance policy comes to an end – this is a surrender and if there is value in the policy it will be replaced by a debt contract under which the insurer owes money to the policyholder;
- be converted to paid-up, that is the policy continues but there is a permanent cessation of premium payments – there is more on policies made paid-up under the terms of the policy in IPTM8210; or
- be surrendered for cash by the policyholder.”
