What is an Onshore Investment Bond?

An Investment Bond is technically a single premium life assurance contract although the life cover aspect is only nominal.

Although classed as single premium investments, ‘top up’ facilities are offered, allowing further amounts to be invested either on a regular or ad hoc basis.

Investment Bonds allow you access a range of investment funds which in turn can invest in assets such as Equities, Corporate Bonds, Commercial Property and Gilts. The funds are divided into units or shares, which are valued on a daily basis and reflect the underlying value of the fund.  This value will fluctuate on a daily basis with market conditions.

Investment Bonds enjoy the facility to switch between these funds at a reasonable cost if desired.

When can it be used?

Investment Bonds used to be extremely popular and were generally seen as the place to invest for the medium to long term once the annual Individual Savings Account (ISA) allowance had been fully used.

However changes in the 2009 Budget have made Investment Bonds less attractive, particularly with regard to taxation.

Investment Bonds have traditionally paid Financial Advisers significant commissions for recommending them, care needs to now be taken if your Adviser recommends an Investment Bond in preference to an ISA, OIEC or Unit Trust.

They are however still useful in a limited number of situations:

  • You require an investment which has no initial charges
  • You want to be able to make future fund switches without tax complications
  • You already have sufficient assets subject to the CGT regime
  • You anticipate being liable only to basic rate tax at the time you expect to encash your investments
  • The 5% tax deferred ‘income’ facility under the Bond provides a regular, simple, means of meeting your requirements

A simple calculation can be produced by a Financial Adviser to confirm whether an Investment Bond or an OEIC or Unit Trust is a more tax efficient investment for you and this should always be done prior to investing.

How it works

An investment is made into the Investment Bond and the funds selected based on an investors attitude to risk, their investment goals and taking into account whether income or capital growth is required.

The underlying funds of Investment Bonds are subject to tax within the fund on income and gains.

Investment bonds are sometimes, incorrectly, described as a tax-free investment when they should really be described as tax-paid.  Basic-rate tax is deemed to have already been deducted at source, and as such a basic-rate taxpayer will have no further liability to either income or capital gains tax.

Higher-rate taxpayers may also benefit from the ’5% rule’ which allows them to withdraw up to 5% of the initial premium for up to 20 years and defer any tax liability.

You may need to make withdrawals in excess of the 5% entitlement in order to achieve the necessary ‘income’ level in the future.  Any such excess would be added to taxable income in the year and only if income then exceeds the basic rate threshold would a tax liability arise.  The fund is deemed to have suffered 20% on its own income and capital gains and the investor would pay the difference between his or her own tax rate and the 20% already paid.

On full encashment a final ‘sweeping up’ exercise is done to calculate the chargeable gain and therefore any additional tax payable.

All Investment Bonds are to be considered longer-term investments and as such most companies have a sliding scale of penalties should you decide to withdraw during the first five years.  These penalties can be as much as 10% in the first year.

Advantages

Fund switches can be made with fewer tax reporting considerations than is the case with an OEIC or Unit Trust.

The 5% tax deferred ‘income’ facility under the Bond provides a regular, simple, means of meeting your requirements.

The 5% tax deferred ‘income’ facility may be useful for a higher rate tax payer who expects to become a basic rate tax payer when the Bond is fully encashed.

Disadvantages

Investment Bonds generally have penalties for the first five years, this is not usually the case with an ISA, OEIC or Unit Trust investment.

An Investment Bond is not as tax efficient as an ISA.

Furthermore when compared to an OEIC or Unit Trust, an Investment Bond is again not as tax efficient. OEICS and Unit Trusts are subject to the capital gains tax (CGT) regime in respect of growth in the investor’s hands, so the profit made on sale would be eligible for the annual CGT allowance (£10,100 for 2009/10), with any excess gain being taxed at 18%.  Bonds are subject to tax within the fund on income and gains, at 20%, with a potential further personal income tax liability of 20% for higher rate tax payers.

The funds available to invest in are generally more limited when compared to the range offered by ISA, OEIC and Unit Trust platforms.

Commissions payable to an Adviser can be higher on Investment Bond than alternative investments.

Next steps

The decision whether to invest via an OEIC, Unit Trust or Investment Bond can be complicated and involves a number of factors.

Furthermore existing Investment Bonds should be reviewed in light of recent changes to Capital Gains Tax.

If you wish to receive advice on the best route for you and your investments or have an existing Investment Bond reviewed then please do not hesitate to contact us by completing the enquiry form on this page or by calling us on 0845 074 7778.

Remember our initial consultations are without obligation or charge.