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Guide to investment bonds

Benefits of onshore and offshore bonds

Discover more about investments bonds. The main differences between onshore and offshore bonds, how they’re taxed and their key benefits.

What’s an investment bond?

Investment bonds are like an ISA – you can pay money in and take money out as and when you want. Like ISAs, bonds follow tax-rules that set out how they work and when you might have to pay tax. ISA tax rules are more generous than those for bonds, so most people would only consider an investment bond once they’ve used up their ISA allowance.

Investment bonds can also help with trust and estate planning. Your adviser might recommend a bond as the best way to meet your inheritance planning needs.

The rules for investment bonds mean that they are usually treated as single premium life insurance policies (because most pay out a small amount of life insurance upon death), but they are really an investment product.

Fund choice

When you take out an investment bond, you’ll usually invest a lump sum into a variety of available funds. The funds and other investment options that are available to you vary by provider. You should consider the funds and investment options you want, before choosing who to invest with.

When you cash-in an investment bond, the amount you get back depends on how well, or badly the investments have done.

Types of investment bonds

There are two types of investment bond; onshore and offshore. The main difference between them is in how the tax rules are applied.

Onshore (UK) investment bonds

Onshore bonds are subject to UK corporation tax. It’s treated as a non-income producing investment, which means it has a different tax treatment from other UK based investments, and this can provide valuable tax planning opportunities.

The tax rules for onshore bonds mean that:

  • The underlying fund selection can be switched without generating a personal liability to capital gains tax as the switch is done within the bond itself
  • Any dividend income received within a fund from UK equities is not taxed
  • We pay tax of 20% on any interest and other income received, such as rental income, from the funds available in the bond
  • We pay 20% tax on any capital gains made by funds available in the bond

All this means that HM Revenue & Customs treat the tax paid as being the same as the basic rate income tax even though the actual tax paid in the bond may be less. In practice, this means that people who are basic rate taxpayers when the bond matures or is encashed pay nothing more. If you’re higher or additional rate tax payer or become one when the bond is encashed, then there could be a tax liability which your adviser can discuss with you in more detail.

Offshore (International) investment bonds

Offshore is the common term for investment bonds issued by companies outside of the UK.

Our offshore bonds are issued from the Isle of Man by Canada Life International Limited and CLI Institutional Limited. Both companies are fully authorised Isle of Man resident life assurance companies that have been granted tax-free status by the Isle of Man government. We also issue investment bonds from Ireland by Canada Life International Assurance (Ireland) DAC which is not subject to Irish tax where the policyholder is resident outside Ireland.

The tax rules for offshore bonds mean that:

  • The underlying fund selection can be switched without generating a personal liability to capital gains tax as the switch is done within the bond itself
  • Any dividend income received within a fund from UK equities is free of tax. Dividends from other countries may be subject to a withholding tax and this cannot be reclaimed
  • Our international businesses do not pay any local taxes in the jurisdictions in which they are based
  • HMRC do not make any allowance for any withholding tax suffered under an international bond

The different way of taxing an offshore bond means that it might grow faster than an onshore bond, although this isn't guaranteed. However, you will pay income tax on any gain at your highest marginal tax rate because with an offshore bond, you’re not treated as having paid basic rate tax on any gain.

Changes that can trigger tax

Certain transactions are treated as chargeable events. When one of these occurs, a chargeable gain calculation is made to establish if any tax must be paid:

  • When someone dies and the death benefit becomes payable
  • Transferring ownership (called assignment) for money or money’s worth
  • When the bond reaches maturity (if applicable)
  • If you withdraw more than the 5% a year tax-deferred allowance
  • You cash-in (surrender) all of your bond or individual policies within it

If a chargeable gain arises it will be assessed on income tax, not Capital Gains Tax. This will be based on your tax position at that time, regardless of whether you have paid higher rates of tax in the past.

Tax-efficient withdrawals

5% tax-deferred allowance

One of the main advantages of investment bonds is that you can take withdrawals of up to 5% of the original investment every year, without having to pay an immediate tax charge. These withdrawals are treated as a return of capital – the tax is deferred and only becomes payable when the bond is cashed in or matures, if any liability arises. Any unused withdrawal allowance can be carried over to the following tax year.

Deferring income tax can be helpful to higher and additional rate taxpayers who want to delay payment until their circumstances change, such as falling into a lower tax band when they retire. It may also help investors who’ve used up their annual capital gains tax allowance.

Withdrawing more than the 5% allowance would result in a chargeable event. The excess amount that’s been withdrawn would be a chargeable gain and could be subject to income tax.

Assigning bonds

Investment bonds can be assigned to someone else without triggering a chargeable event, as long as cash doesn’t change hands. This means that a higher or additional rate taxpayer can assign the bond to a spouse or partner without triggering a tax charge. This is especially beneficial if they’re a basic rate taxpayer or a non-earner.

Income from a bond

Any withdrawals are paid to the policy owner. So if the bond is assigned to a new owner, they can take withdrawals and make use of any unused 5% allowance to defer the tax payable.

We have a range of trusts that can help you manage what happens to the money in your bond. Discover our trust options.

What are the risks?

The value of your investment can go down as well as up and you may get back less than you invest. Tax rules depend on the type of investment and individual circumstances and may change.

Learn more about investing

Guide to investing

Read about the different types of assets you can hold in a bond.

Learn more

Managing investment risks

Learn more about the types of risks that come with investing.

Learn more

Be a ScamSmart investor

Help to avoid investment and pension scams.

Learn more

Next steps

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Get in touch

Contact our onshore team

0345 606 0708

or send an email

Contact our international team

0333 015 1382

or send an email

Monday to Friday, 9am to 5pm

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