Discounted Gift Trusts and Loan Trusts Using Life Assurance: How They Work
Not all wealth can simply be gifted away. An individual who has accumulated significant capital in investment bonds, whole of life policies, or portfolios may face a substantial inheritance tax (IHT) liability — but may also need access to income or capital during their lifetime. Giving assets away outright removes this access; keeping them in the estate preserves the access but also preserves the IHT liability.
Discounted gift trusts (DGTs) and loan trusts address this tension. Both use life assurance or investment bonds as the underlying investment vehicle and allow a degree of estate planning benefit while preserving some access to the settlor. They are widely used by estate planners working with older clients who cannot survive seven years from a gift — the full period required for a Potentially Exempt Transfer (PET) to fall entirely outside the estate.
This guide explains how DGTs and loan trusts work, how they interact with life assurance, and how to assess whether either is appropriate.
As of 2026, the tax treatment of DGTs and loan trusts follows HMRC guidance and settled case law. The government has previously considered reforming trust taxation. Always take current professional advice before proceeding.
The Planning Problem: Access vs. IHT Efficiency
The fundamental tension in IHT planning for older clients is this:
- Outright gifts remove assets from the estate (after seven years) but the donor loses all access and control
- Assets kept in the estate remain accessible but attract 40% IHT
- Some clients need both: access to regular income or withdrawals, and some IHT mitigation
Standard discretionary trusts can hold a client's assets, but if the settlor retains any benefit from the trust (including the ability to benefit from the trust assets), the assets are treated as part of the estate under HMRC's "gift with reservation of benefit" (GWR) rules — defeating the IHT objective.
DGTs and loan trusts are structures designed to navigate this problem within the law.
Discounted Gift Trusts (DGTs)
What Is a DGT?
A discounted gift trust is an irrevocable discretionary trust into which the settlor places a capital sum — typically via an investment bond or an insurance-wrapped investment vehicle. In return for the capital gift, the settlor retains the right to receive regular fixed withdrawals from the trust for the remainder of their life (a "retained income" right or "bare access" right).
The critical feature is that the retained right to withdrawals is valued actuarially — based on the settlor's age, health, and the level of withdrawals — and the "discounted" value of this retained right is deducted from the gift for IHT purposes.
Example: How the Discount Works
A settlor aged 70 places £500,000 into a DGT and retains the right to receive £20,000 per annum for life.
An actuary (or the insurer's underwriting tables) calculates the present value of the expected income stream — i.e., how much a hypothetical buyer would pay today to receive £20,000 per annum for the expected remaining life of this 70-year-old. For a healthy 70-year-old, this might be approximately £200,000.
The "discounted gift" — the amount treated as a chargeable transfer for IHT — is:
£500,000 (total gift) − £200,000 (retained rights) = £300,000 (chargeable transfer)
If the settlor has a full annual exemption and nil-rate band available, the £300,000 chargeable transfer may be partially or fully within the nil-rate band (currently £325,000), meaning little or no immediate IHT charge on establishment.
After establishment, the settlor makes withdrawals of £20,000 per annum. The remaining trust fund grows and passes to the discretionary trust beneficiaries (typically children and grandchildren) on the settlor's death. The original gift (£300,000 after discount) is outside the estate after seven years — but more importantly, any growth on the trust fund above the original gift is immediately outside the estate.
The Discount for Poor Health
HMRC requires that the actuary takes the settlor's actual health into account. A settlor who is seriously ill may receive a smaller discount (because the probability of a long income stream is low — the expected present value of payments is smaller). If the settlor dies within two years of establishing the trust, the discount may be challenged by HMRC.
A DGT is therefore generally less suitable for individuals with a terminal prognosis or significantly impaired life expectancy.
Life Assurance as the Investment Vehicle
DGTs are frequently structured around an offshore investment bond (or an onshore bond) — a life assurance wrapper containing an investment portfolio. This is because:
- Investment bonds allow controlled tax-deferred withdrawals (the 5% annual withdrawal allowance under HMRC rules for onshore bonds)
- Offshore bonds can be held in trust efficiently for beneficiaries who will be non-UK resident
- The bond structure provides a defined investment vehicle that interacts cleanly with the trust mechanics
The bond does not itself require a life assured other than the settlor, but it must be an "insurance" product — some pure investment trust structures are not suitable.
Loan Trusts
What Is a Loan Trust?
A loan trust is simpler in mechanics than a DGT, but has different IHT characteristics.
The settlor makes a loan — not a gift — to a discretionary trust. The trust invests the loaned capital (again, typically in an investment bond). The settlor can call in the loan at any time, receiving back the loaned sum, but the trust retains any growth on the original loan amount.
IHT Treatment
Because the settlor has made a loan rather than a gift, the original capital does not leave the estate — it remains as a loan receivable asset (the trust owes the money back). However, any growth on the invested capital accrues in the trust and is therefore outside the settlor's estate.
Over time, if the trust fund grows and the settlor does not call in the loan, the proportion of the estate falling outside IHT increases.
On the settlor's death:
- The outstanding loan balance is a debt owed to the estate — it falls back into the estate and is subject to IHT
- The growth above the outstanding loan is already in the trust and passes to beneficiaries free of further IHT
Example
A settlor aged 65 lends £600,000 to a loan trust. The trust invests in a growth-oriented portfolio within an investment bond. Over 20 years, assuming 5% per annum net growth, the trust fund grows to approximately £1,592,000.
On the settlor's death:
- The loan balance (£600,000) falls back into the estate and is subject to IHT
- The growth (approximately £992,000) passes to beneficiaries free of IHT
The net IHT reduction: ~40% × £992,000 = ~£397,000 saved.
The loan can also be drawn down in segments during the settlor's lifetime — reducing the loan balance (and thus the amount reverting to the estate) while potentially the trust fund continues to grow.
DGT vs. Loan Trust: Which Is More Appropriate?
| Feature | DGT | Loan Trust |
|---|---|---|
| Immediate IHT reduction on establishment | Yes (discounted transfer outside estate immediately) | No (original capital stays in estate as loan receivable) |
| Income/withdrawal access | Fixed, actuarially valued income stream only | Flexible — loan can be called in |
| Suitable for impaired health | Less suitable (smaller discount for ill clients) | More suitable (no health-based discount) |
| Growth outside estate | Immediately (on growth above gift value) | Immediately (growth only) |
| Capital outside estate eventually | After seven years (chargeable transfer) | Never (loan always in estate unless written off, which is a PET) |
| Trust IHT (10-year charge) | Potentially (if fund above NRB) | Potentially (on growth element) |
| Complexity | Higher | Lower |
Trust Drafting and Administration
Both DGTs and loan trusts require professionally drafted trust deeds. Key clauses:
- Trustees: Typically two or more trustees (not the settlor alone). A professional trustee co-trustee adds governance.
- Beneficiary class: Children, grandchildren, and other dependants of the settlor, named specifically or as a class.
- Trustee powers: Broad investment powers, ability to hold non-UK assets, currency powers.
- Settlor's reserved rights: For the DGT, the retained income right must be precisely specified (amount, frequency, circumstances of variation).
- Loan terms: For the loan trust, the loan agreement between the settlor and the trust must be executed alongside the trust deed — specifying the loan amount, interest rate (typically nil interest to avoid complexity), and repayment terms.
DGTs and loan trusts holding investment bonds in trust are also subject to the trust's own IHT regime — periodic charges (every ten years) and exit charges. Where the trust fund exceeds the available nil-rate band at a ten-year anniversary, a charge of up to 6% of the excess may apply.
International Considerations
For internationally mobile clients, note that the UK abolished the domicile-based system for inheritance tax from 6 April 2025, replacing it with a residence-based test (broadly, an individual is a "long-term UK resident" — and so within the scope of IHT on worldwide assets — once UK-resident for at least 10 of the previous 20 tax years). Trust planning must now be assessed against this residence-based framework rather than the former concepts of domicile and deemed domicile:
- DGTs and loan trusts using UK investment bonds are generally structured under UK law and are most relevant for clients who are, or expect to become, long-term UK residents for IHT purposes
- Offshore investment bonds held in an offshore trust may be more appropriate for clients who are not long-term UK residents or who intend to remain outside the UK
- The interaction of a UK DGT or loan trust with the tax treatment of the underlying investment in an overseas jurisdiction (for a non-UK resident beneficiary) requires careful advice
- The Hague Convention on Trusts provides some protection for cross-border trust recognition, but not universally
How Global Investments Can Help
Global Investments advises HNW individuals on the full spectrum of IHT planning strategies, including DGTs, loan trusts, and the investment bond structures that underpin them. We assess each client's estate position, health, age, and income needs before recommending any trust structure — ensuring that the right tool is used for the right circumstances.
We co-ordinate with specialist trust solicitors to ensure that deeds are correctly drafted, and work with offshore and onshore investment bond providers to identify the most suitable investment vehicle for the trust.
For internationally mobile clients, we assess how a UK trust structure interacts with succession and tax law in the relevant overseas jurisdictions.
Contact Global Investments to discuss your IHT planning requirements.
IHT rates, nil-rate bands, and trust taxation may change. This guide reflects the position as of 2026. Always take current professional advice. The value of investments and income from them can fall as well as rise.
This guide is for general information only and does not constitute financial or insurance advice. Policy terms, premium rates, and insurer eligibility criteria change — always verify current terms with a qualified independent adviser before taking out any policy.