At the turn of the century, products called “single premium investment bonds” proved particularly popular. They offered modest but sufficient life coverage to allow providers – and their clients – to take advantage of this strange tax regime. Some companies still issue them today.
A certain attraction
These products, which were very popular at the time, had their attractions. Buyers invested a lump sum – say £ 100,000 – and could then withdraw 5% of that initial sum each tax-deferred year. The insurance company invested the money, with the hope that it would grow. Often, bonds were issued on joint lives, so they passed to the survivor on first death and provided continuity. You can see the call.
Many were issued following the tech crash of 2000, when stock prices were relatively low, and therefore performed well.
Often, policyholders did not make any withdrawals – it was optional and unused withdrawals were accumulated. This means that many are sitting on fat products with gain. The collection of the policy will trigger what is called an “chargeable event”. So what to do with them?
Any attributable event is valued at the insureds – generally the insured lives. The tax payable is deemed to be net of income tax at the base rate and capital gains tax (CGT).
In the life insurance company plan, it is deemed to have been paid into the fund. So, for higher rate taxpayers, there is a potential additional burden of 20% of the gain – the difference between the base rate and the higher tax rate. For taxpayers at additional rate, the supplement is 25%.
The earnings are the difference between your initial investment and the proceeds. If you have made withdrawals, they are added. If you haven’t, you’ll be charged on the product minus your initial investment.
The “top cut” allows these earnings to be divided by the number of years of insurance since the start. This portion is then added to your income for the tax year of the buyback to calculate the additional tax rate. These calculations can be complex and are worth discussing with an advisor.
It is possible to assign an obligation to someone else as an outright gift without triggering an attributable event. Assign the policy to someone who is a base rate taxpayer after the tax has been calculated and they will not pay any tax on the surrender. As a result, this transfer possibility is often used between spouses or civil partners when the original policyholder is a higher rate taxpayer and his partner a base rate taxpayer.
More and more people are giving out fonts to loved ones. The same benefits apply.
A valuable advantage
This is an unusual advantage. You could not, for example, hand over to your daughter the shares that you have held for 20 years without triggering a possible CGT charge.
I now have a lot of senior clients who assign these policies to low income children and grandchildren. They see it as a way to ungroup policies. The assignee – the new owner – must be over 18, so this is often a great way to help a loved one pay off debts or move up the housing ladder.
Often, bonds are issued in multiple policy segments. Each segment can be assigned separately. This allows donations to be made to multiple beneficiaries. It also allows the transferee to redeem over several tax years and to manage their own tax situation.
These policies count towards your estate for inheritance tax (IHT), so giving them to a non-spouse or civil partner – if you can afford the luxury – also represents good estate planning. There could be IHT liability if you die within seven years, so I encourage my clients for whom this is appropriate to act quickly and hang in there.
I’m not sure beating the IRS is the best incentive to live long, but it can help!