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HMRC internal manual

Insurance Policyholder Taxation Manual

Periodical payments: tax exemption: annuity payments

Use of annuities to provide periodical payments

As described in IPTM5010, it will not always be the casethat periodical payments in a personal injury case are paid by the defendant or thedefendant’s insurer. A common arrangement is that under the court order or settlementagreement the defendant or defendant’s insurer purchases a life annuity or a seriesof life annuities for the absolute benefit of the injured person. IPTM1130gives background on what constitutes an annuity.

The annuities used may take various forms. They may provide for payments to be made forthe full duration of the life of the injured person or they may be temporary annuitiesthat only make payments for at most a specified number of years. Another type of annuitythat might be used is a deferred annuity where payments only start at some date in thefuture. Annuities may be tailored to meet the particular needs of the injured person, forinstance a deferred annuity might be used where it is anticipated that the injured personmight require an increased level of care from some date in the future.

Tax exemption for periodical payments made by way of an annuity

The legislation specifically extends the tax exemption for periodical payments in apersonal injury case to annuity payments made under an annuity purchased or provided

  • in accordance with a court order, agreement or Motor Insurers’ Bureau undertaking - see IPTM5020 - or a varying order - see IPTM5030
  • by the person by whom the periodical payments under such an order, agreement or undertaking would otherwise fall to be made.

As with periodical payments generally, the link with the court order or agreement iscrucial. If, for instance, the court order for damages provided for a lump sum to be paidto the injured person who subsequently used it to purchase an annuity then the annuitypayments would not be exempt from tax. First, the annuity was notpurchased in accordance with the order. Secondly, it was purchased by the injured person,not the person by whom the payments would otherwise fall to be made.

Where, however, a defendant or insurer initially directly funds periodical payments ofdamages for personal injury specified in the court order and then purchases an annuity forthe injured person to meet the payments, the payments under the new method of funding willremain tax exempt. This will be the case even if an annuity is not specifically providedfor in the order, because the Damages Act permits such a change without court approval.

Treatment of annuity payments made after the injured person’s death

The exemption from tax is personal to the injured person and does not continue past hisor her death. Some annuities have a guaranteed period where payments continue to be madefor a certain time after the injured person’s death, for instance if death occursprematurely. If so, the payments made after the death are taxable in the normal way aspayments from a purchased life annuity with an exempt capital element - see IPTM4300 onwards.

Further reference and feedback IPTM1013