Tax planning with Investment bonds
We advise many of our higher rate taxpaying clients to reduce tax exposure on their investment income. This planning can range from straightforward spousal planning (transferring assets to a lower tax rate spouse) to considering tax advantaged investments (e.g. Venture Capital Trust or Enterprise Investment Scheme).
It makes little sense to expose income to the highest rates of tax when some well-considered planning could not only reduce the tax exposure but also potentially achieve a much better return on that investment for the longer term.
One particular solution that we often arrange for our clients is investment bonds, the key tax benefits of which are:
- Withdraw up to 5% of your initial investment without any immediate tax – essentially giving you a fixed 5% annual “income” yield.
- Reduces your taxable income levels – swapping taxable bank interest or dividend income for an investment bond that can provide 5% annual income (tax-deferred).
- This immediately saves you paying higher rate or additional rate Income Tax.
- The 5% annual withdrawal accrues if not taken each year, so you could take a later lump sum without any immediate tax.
- If the 5% annual withdrawal limit is breached, or the bond is surrendered or matures, Income Tax will apply to any gain. The bonds are not subject to Capital Gains Tax.
- For UK-held bonds a 20% basic rate tax credit is applied, so higher rate taxpayers only pay tax on the difference between their marginal rate (40%/45%) and that credit.
- For bonds that been running for several years, ‘Top slicing relief’ may assist in reducing the rate of tax charged by applying a spreading mechanism.
- We would look to plan to reduce income levels for the year of maturity/surrender so as to minimise the tax exposure on any final bond gain.
Below is a simple example of the increase in net annual income, comparing investing £200,000 in a share portfolio with an investment bond – the same amount invested can increase annual net income by more than double:
From a purely tax planning perspective, investment bonds provide a very attractive opportunity to immediately reduce taxable income levels and yet provide a fixed annual “income” of 5%.
These bonds are investments and as such require investment advice to choose the right option for you. At Garbutt + Elliott our qualified Chartered Tax Advisers work closely with our Chartered Financial Planners, giving us an attractive and efficient one-stop-shop that can cover all our clients’ tax and financial planning needs. Please get in touch with any questions you may have.