Understanding investment bonds

UK Investment Bonds have a different tax treatment compared to other UK investments. This can provide valuable tax planning opportunities. Here’s what you need to know:

Tax treatment

• The funds underlying the bond are subject to UK life fund taxation, so, you're treated as having paid basic rate Income Tax on the amount of the gain. This notional tax is not repayable in any circumstances.
• You will have no Capital Gains Tax (CGT) liability on any bond gains.
• The maximum rate you’d be liable for is the difference between the basic rate and your highest rate of Income Tax for the relevant tax year.

Chargeable Events

• Can occur during the lifetime of your onshore investment bond and may result in a potential Income Tax liability.
• Examples of when Chargeable Events are triggered include:
  • When withdrawals exceed the 5% allowance.
  • On the death of the Life Assured.
  • On transfers of legal ownership of part or all of the bond (excluding gifts).
  • On the maturity of the bond (only applies to Capital Redemption bonds).
  • If the bond (or individual policies within it) is fully cashed-in.

Withdrawals

• You can withdraw up to 5% of your original investment each year without paying any immediate Income Tax.

Tax planning

• Higher-rate taxpayers might consider deferring any withdrawals from the bond (in excess of the accumulated 5% allowances) to reduce tax liability if, in the future, they plan to become basic-rate taxpayers (perhaps after retirement, for example).
• Any gains made may affect your eligibility for certain tax credits.
• You could lose some or all of your entitlement to Personal Allowances. 
• Special rules apply to investment bonds held in trust.

‘Offshore’ refers to a range of locations outside the UK where companies offer investments that can grow largely free from tax. This includes ‘true offshore’ locations such as the Channel Islands, the Isle of Man, and Dublin. Tax treatment can vary from one type of investment to another, and from one market location to another.

Tax treatment

Offshore investment bonds work much like UK investment bonds, with the same chargeable events. The main difference is in the tax treatment.

• Onshore bonds: tax is payable on gains made and investment income received from the underlying investments of the life fund(s).
  
  
• Offshore bonds: no UK Income Tax or Capital Gains Tax is payable on gains within the fund. There may be an element of Withholding Tax deducted from interest and dividends received by the fund(s).

Growth potential

Because offshore bonds aren’t taxed on growth within the fund, they may grow faster than onshore bonds, though this isn’t guaranteed and charges or other factors can affect performance, so will need to be taken into account in any comparisons.

Withdrawals

• With offshore bonds, you’re not treated as having paid basic rate tax on any gain.
• So you’ll pay Income Tax on any gain at your highest marginal tax rate.

Tax planning

• Any gains made may affect your eligibility for certain tax credits.
• You could lose some or all of your entitlement to Personal Allowances. 

Tax rules can change. The impact of taxation (and any tax relief) depends on your circumstances, including where you live.

Top slicing relief can reduce the rate of tax charged on bond gains by spreading the gain over the years you’ve held the bond.

• It usually applies if adding the gain pushes you into a higher tax bracket.
• If it applies, you could pay less tax on a chargeable event gain.
• If it doesn’t apply, there may still be some top slicing relief available due to the effect of the Personal Savings Allowance nil rate, and the starting rate for savings.

HMRC has a process for calculating this which can be very complex, so we recommend you speak to your financial adviser for more details.

You can withdraw up to 5% of your original investment each year without paying any immediate Income Tax.

• This allowance is cumulative - any unused part of this 5% limit can be carried forward to future years (although the total can’t be greater than 100% of the amount paid in).
• This is called the ‘5% tax-deferred allowance’.

If you withdraw more than the accumulated 5% tax-deferred allowance:

• The excess will trigger a chargeable gain.
• Your provider will send you details of the chargeable event gain and you’ll have to report it to  HMRC
• You may be liable for additional Income Tax.

Watch this video to better understand how to register a trust, enter beneficiaries and download your proof of registration.

1. Some trusts might not need to be registered

Examples of trusts that are typically exempt include:

• Trusts created upon death (i.e. by Will) for a period of 2 years
• Trusts created by a Court Order
• Trusts for bereaved children and vulnerable people
• UK-registered pension schemes, and
• UK-registered charities.

Please note that the above list is not exhaustive.

For more details, see HMRC’s Trust Registration Service Manual, talk to your financial adviser or seek professional legal advice.

2. You’ll need information from the Trust Deed

For example, names, dates and addresses. If the information you give us is different from what’s in the Trust Deed, we might reject it.
 

3. Understand who settlors, trustees and beneficiaries are

• Settlors set up the trust by putting assets into it.
• Trustees manage the trust.
• Beneficiaries benefit from the trust. 
• Settlors are often also trustees.

The Trust Deed will tell you who these people are.

4. The lead trustee must set up a new HMRC online account

• They can’t use an existing account.
• They must set up a new, separate account for each trust.
• HMRC’s online account is also known as Government Gateway or One Login.

5. You must enter all beneficiaries that are in the Trust Deed

The Trust Deed lists everyone who may benefit from the trust, including:

• Named individuals (e.g. ‘Andrew Smith’)
• Classes of beneficiaries (any group who may benefit, e.g. ‘children and grandchildren of the settlor’).

You must enter all named individuals and all classes into your trust registration. If anything is missing, your registration may be rejected. You can shorten descriptions if needed to fit field limits.

6. Download your ‘Proof of registration’ document as a PDF

After you’ve completed your registration,

• Log out and log back in to your HMRC online account.
• Download your ‘Proof of registration’ document as a PDF.  Screenshot or formats other than a PDF will be rejected.
• Send us a copy dated within the last 30 days, to contact.us@prudential.co.uk  Added for clarity