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Finance Bill offers no clarity on life policy part surrenders

The Finance Bill failed to shed more light on how HM Revenue & Customs plans to recalculate the gain on partial surrenders when policyholders withdraw money from their life insurance policies the wrong way, says Rachael Griffin, financial planning expert at Old Mutual Wealth.

Finance Bill offers no clarity on life policy part surrenders

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Currently, there are two ways in which customers can withdraw money from an investment bond. They can either make a partial withdrawal from all policy segments or they can do a complete closure of individual policy segments.

The tax implications can differ greatly in each scenario and often the customer is unaware of the implications.

As a general rule, Griffin explains, it may be more tax efficient to withdraw money, over and above the annual 5% allowance, through surrendering individual policy segments rather than part surrender.

However, each case needs to be reviewed on its own merits, she cautioned.

Lobler case

If a customer asks for money to be withdrawn from across all policies, where this is in excess of their 5% tax deferred allowance, the customer could be faced with a significantly greater tax liability than would have otherwise been the case.

Mistakes can happen and may lead to extreme tax consequences which are completely disproportionate to the growth received on the investment, as in the case of Lobler.

In 2007, Joost Lobler, a Dutch national was ordered to pay $560,000 in tax on the $1.42m he withdrew from a policy he set up with Zurich Life just two years earlier.

Lobler took his case court and eventually won, which prompted the HMRC review.

Case-by-case

Published Monday, the Finance Bill 2016/17 indicates that “HMRC will consider each recalculation request on a case-by-case basis, and the threshold is set high in terms of what it will consider reasonable to correct”, said Griffin.

“No-one should rely on this as a safety net, and policyholders should carefully consider how they take money out of a life insurance policy to avoid invoking an unnecessary and disproportionate tax charge.

“One positive change announced in the Finance Bill is that policyholders will have a period of four tax years following the tax year the gain was made in to request a recalculation of the gain by HMRC, in previously draft legislation this was two years.

“This will give policyholders plenty of time to realise an error has been made and for them to gather the required information to request a recalculation by HMRC,” Griffin said. 

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