I arranged a unit-linked whole-of-life plan nearly 20 years ago with a
direct-selling life insurance company. The policy was written in trust to
meet an expected capital transfer tax liability (now inheritance tax).
I have been able to increase the level of cover without increasing the
premiums and without providing further medical evidence. Despite the unit
price rising, I have been asked to increase my contributions and, since the
review statement was produced, the unit price has fallen by nearly 10 per
cent. What is happening and what should I do?
There are a number of moving parts within unit-linked whole-of-life plans.
When a plan is written into trust, this ensures the death benefit is
outside your estate when calculating IHT. Only premiums paid within the
last seven years need to be included in a calculation of your estate for
IHT purposes. These premiums may themselves be exempt because of the annual
capital gift allowance of £3,000.
When a premium is paid, units are allocated to the policy net of initial
charges, increasing the accumulated value of units in the plan. Each policy
has a claim sum assured and a mortality deduction based on the probability
of death occurring prior to the next deduction and the difference between
the death sum assured and unit value accumulated to date.
As the policyholder ages, the mortality deduction increases per £1,000 of
“at risk” sum assured. A key assumption is that the price of units will
continue to grow at least as fast as projected in the years ahead so the
policy's unit fund value will increase and the “at risk” sum assured will
reduce. The mortality deduction will be kept under control as the
The design of different unit-linked policies varies. For some, the unit
fund value is targeted to reach the death sum assured at a specified age,
say, 100 or 105. The younger the age, the more conservative the approach.
Two things could go wrong. First, the level of mortality deductions per
£1,000 “at risk” sum assured may go up rather than staying steady or going
down. Except for the Aids scare in the late 1980s and early 1990s, this has
Second, if the unit growth rate is below the projected growth rate and the
build-up of the policy unit fund value is less than expected, the
policyholder may be expected either to increase their contributions or
reduce the level of cover.
It is possible for the unit growth to have been greater than assumed. This
growth could have built up a margin of safety to protect against future
underperformance or stockmarket setbacks.
However, you have used this additional growth to fund “free” increased
life cover and no margin has built up. Over the year, the units went up in
value less than assumed when the premium was confirmed last year. It may
have been better not to have increased your cover in prior years but
instead to have built up some protection against the vagaries of
Now you are in your late 80s, the mortality deduction per £1,000 of “at
risk” sum assured is over 18 per cent. This increase in the mortal- ity
deduction may cause a serious problem for the long-lived who arranged
unit-linked whole-of-life plans.
In a serious market setback, where a surplus has not been generated in the
previous few years or has been expended by opting for increased cover, the
“at risk” sum assured can increase considerably even between annual
reviews. Your accumulated unit fund value was approximately 75 per cent of
the death sum assured.
The recent setback has increased the “at risk” sum assured by nearly 30
per cent and would lead to a greatly increased mortality deduction. This
means a big increase in your premium or a significant cut in the death sum
I would recommend that you cease to take advantage of “free” increases in
cover and concentrate on creating a margin of safety. As the increase
required in your premium is relatively small and you have surplus income, I
suggest you pay the increase and hope the market recovers over the next 11
months. This will cover your estimated IHT liability.
I have asked the company to indicate the level of premium necessary if the
unit growth assumption was reduced in the future or the reduced level of
cover was available with the same assumption. In the light of today's lower
nominal expected returns, this may be more realistic. Any increased premium
could be funded from capital growth. These schemes are not subject to the
same regulatory constraints as occupational pensions.