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HMRC internal manual

Insurance Policyholder Taxation Manual

Substitutions: pre-25 February 1988 policies

In 1988, the Inland Revenue received legal advice to the effect that the conversion ofa policy between endowment, whole of life or term assurance brings the policy to an endand substitutes a new policy. This clarification led to the announcement of a change ofview on the certification of qualifying policies that contained conversion options andadvice on how to treat existing policies. The revised view was disseminated to insurersthrough Notes on Procedure 10. The material in those Notes has been up-dated andincorporated into this guidance and the Notes should be regarded as superseded.

A policy cannot be qualifying unless it has been certified by HMRC as qualifying or is ina standard form that has been certified as qualifying - IPTM8305 onwards.

Policies certified on or after 25 February 1988

Under the legal advice received in 1988 the exercise of a conversion option in a policywould result in a new contract.

The Revenue announced that policies containing conversion options would no longer becertified as qualifying from 25 February 1988 onwards unless the substituted policy woulditself be qualifying under the normal rules.

So, for instance, certification of a policy with a peppercorn option or a deposit option,as described below, was no longer possible as from 25 February 1988. This is because thetransfer value of the old policy would be applied as premium to the substituted policy,which would cause the qualifying policy tests to be failed. This is explained further at IPTM8180 and IPTM8185.

Treatment of policies certified before 25 February 1988

Before 25 February 1988, the Revenue was prepared to certify as qualifying policiesthat contained certain conversion options in their terms. These included

  • an option to convert a policy from whole life to endowment, whereby benefits become payable at a maturity date rather than only on death - the premiums may be increased and/or the sum assured reduced
  • a ‘reinvestment option’ or ‘deposit option’ to convert the policy from endowment to whole of life whereby only part of the proceeds payable on maturity are withdrawn, with the balance reinvested in a whole of life policy, usually with a surrender facility
  • a ‘peppercorn option’ to convert the policy from endowment to whole of life whereby the proceeds are not withdrawn but nominal premiums (usually £1 per year) become payable for life and surrenders are permitted at any time.

The strict position is that the exercise of a conversion option would result in a newpolicy. However, where the option is in a certified policy that was in existence before 25February 1988, its exercise would be treated as a variation in line with the protectiongiven in Notes on Procedure 10 and qualifying status will not be affected. This is thecase even though the option may be exercised on or after 25 February 1988.

Further reference and feedback IPTM1013