When you buy an investment fund, you may choose to do so via a wrapper which helps convey certain tax benefits on the income and capital gains which you receive. An investment bond is one of these wrappers you can choose.
Investment bonds are generally available for single premiums – which is a one-off, lump sum. You can choose how that money is invested from a range of options. Traditionally, the most popular have been with-profits, managed and distribution funds. These combine a variety of different asset classes within the one fund and therefore offer diversification all under one roof. More recently, the range of options has become much greater, with both diverse and specialist funds now being offered alongside through fund management houses.
Funds within an investment bond pay tax equivalent to the basic rate so there is no specific benefit to help such investors save tax. However for higher rate taxpayers, it does offer the chance to defer any liability incurred on gains – and potentially reduce them in the process.
For example, under income tax deferral rules, you can withdraw up to 5% of your initial investment each year, without becoming immediately liable for tax on it. This amount can be withdrawn every year for up to 20 years and it’s not until you cash in the entire investment bond that you are assessed and have to pay that additional tax on any gains.
This postponement of the tax liability can be particularly advantageous if you are a higher rate taxpayer now but expect to become a basic rate taxpayer in future, perhaps after retirement. The tax charge applies at the rate you are paying when the bond is encashed, not when the income was taken. As the bond has already been paying the equivalent of basic rate tax during its term, in this example, you would end up owing nothing more.
The structure of investment bonds means they can also offer facilities that some mutual funds cannot. Phased switching, to and from cash funds, for example, can help you dip into or out of a volatile fund. And as life assurance products, they also carry life cover which guarantees your original capital should the worst happen. However, you should be aware that if your main objective is growth, particularly for higher rater tax payers, there may be other more tax advantageous ways to invest.
Before making any decision, make sure you consider all the investment options, your current and future outlook. Make sure you take some professional advice.
As always we are here to help.