Is a critical illness insurance payout taxable in the UK?

Full answer

A payout from a personal critical illness cover policy is, in almost all cases, free of UK tax. If you took out the policy yourself and paid the premiums from your own taxed income, the lump sum you receive on diagnosis of a qualifying condition is not subject to Income Tax or Capital Gains Tax. There is no relief on the premiums either - this mirrors most personal protection insurance, where you pay premiums from net income and receive the proceeds tax-free. The main areas where tax can become relevant are indirect or arrangement-specific. First, what you do with the money matters. The lump sum itself is tax-free, but if you invest it, any interest, dividends or gains it later produces are taxable in the normal way. For 2026/27 the Personal Savings Allowance, the GBP 500 dividend allowance, and the GBP 3,000 Capital Gains Annual Exempt Amount would apply to that future income or growth - sheltering it in an ISA (GBP 20,000 allowance) avoids tax on the returns. Second, employer-arranged or group schemes can differ. If an employer pays for cover as a benefit, the premiums may be a taxable benefit in kind, and the tax treatment of any payout depends on how the policy and trust are structured. Relevant life and some group arrangements are designed to keep payouts outside the employee's estate. Third, inheritance tax. A payout received while you are alive is yours; but if a lump sum is paid into your estate on death and the policy is not written in trust, it can form part of your estate for IHT (NRB GBP 325,000, plus the GBP 175,000 residence nil-rate band where it applies, with 40% above). Writing the policy in trust usually keeps the proceeds outside the estate. Use a savings calculator to estimate growth on the proceeds.

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