Does it ever make sense to NOT set your life insurance policy up in trust?

You are correct, it doesn't make sense not to set up the policy in trust. It ensures payment is quicker and more efficient. I set up a policy in trust for one client and after she died suddenly, the partner was paid £300k 6 days later. The rest of the estate was settled 10 months later. It not only ensured £120k of IHT savings, but also the solicitor charged 3% for administering the state, hence another £9,000 savings. This is perfect example of why it should be done

Unfortunately it is not always best practice to place life assurance in trust. Paul Ross does make some excellent points about the often overlooked benefits of speed of payment and clarity of who is to get the money. However where life cover is needed to repay mortgage debts for example then outside of a trust that cover can be assigned as collateral for the loan. However policies held in trust cannot be assigned. Also trusts can be inflexible. If your circumstances change and you wish different beneficiaries this will not be possible if you have used an absolute trust for example.

An important point is that if your life cover includes critical illness cover then very great care is required indeed and specialist trust wording, if a trust is to be used at all. The idea is that if the policy owner dies then a policy payout to a trust and then via the hopefully 'tame' trustees to the right beneficiary should be outside the deceased's estate. By contrast an ill health claim under the critical illness section of a combined life and serious illness cover policy will be needed by the policyholder themselves. If it were in trust this could not happen – the 'settlor' cannot benefit from a trust – otherwise it is a gift with reservation of benefit. What is needed is a split trust.

Trusts not only help with speed of payment but are also frequently used to avoid any potential IHT charge on the payout value otherwise added to the deceased's estate. Such funds can even be earmarked to help pay any likely IHT bill expected at death. However IHT is of course only itself any real threat if the value of your estate at death is likely to be higher than the prevailing nil rate IHT tax band - presently £325,000.

Whilst a trust does very clearly and simply direct exactly to whom and when a life plan payout goes it does not necessarily save any tax - this is only true if the estate would have been liable for IHT. Paul Ross's point is however a very pertinent one that assets outside the estate should also escape any professional executors (typically solicitors) charging a further 2-3% on the value of the estate they help wind up (not to mention their already high 'standard' fees).

I have some points of contention with Richard's comments!

if a policy has a non death benefit such as critical illness, a split trust can be created to put just the life element in trust and so meet all the points that Paul covered - to which i agree in full.

in terms of not being able to assign a life cover in trust for a mortgage, i am not aware of any lender that requires that any more as it was generally stopped as a practice from the mid 1990s.

policies currently assigned are now released when the client moves home or lender as the original lender has too much concern and cost in storing the documents especially now that deeds have been dematerialised (made into an electronic record) so again, as properties now change hands all the old paper documents are sent to the new owner and no longer kept by the lender.

using an absolute trust is incredibly rare and usually only done for certain IHT planning exercises.

i would always use a discretionary or flexible trust so that the beneficiaries and trustees can be changed at will.