You can withdraw up to 5% of your initial investment (known as ‘capital payments’) each policy year without triggering a chargeable event – this is your ‘tax deferred allowance’.
You can take these payments until you’ve completely withdrawn your capital and you will not immediately pay any income tax on these payments – regardless of the rate of tax you pay.
It is important to note though that any previously withdrawn capital payments will be ‘added back’ to the final withdrawal to work out the gain the bond has made over its lifetime.
John originally invested £10,000, took 5% per year and surrendered his bond 10 years later for £20,000.
John’s gain is worked out as:
£20,000 (surrendered amount)
£5,000 (5% tax free cash per year for 10 years)
£10,000 (original investment amount)
John’s gain when he fully cashes-in his bond is £15,000.
After adding £15,000 to John’s other income for the year, he is still a basic rate payer, which means he will not pay any income tax on his gains.
Remember, when a chargeable event takes place, any gain you make, including any capital payments previously taken, may be subject to income tax.