The most fundamental question around investing in a bond is jurisdiction. Should clients invest in the UK or internationally? There is clearly no right or wrong answer; it all comes down to the needs of an individual.
Both UK and international bonds have their strengths, which vary from full open-architecture to the 20% tax credit on UK bond gains, among other things. To help choose between international and UK jurisdictions the experts at Canada Life have put together a straightforward guide comparing the options.
What is the taxation position?
From an international perspective, investments can grow free of UK income tax and capital gains tax. It may not be possible to reclaim withholding tax suffered on some foreign income received.
On the UK side, the underlying fund pays 20% corporation tax on any interest, deemed capital gains and any realised gains. UK dividend income is not subject to tax in the fund. On some funds and assets the actual tax paid in the fund may be less than 20%.
What are the investment options?
International bonds can be open-architecture, offering policyholders access to almost any permissible collective fund, which can appeal to more sophisticated investors.
They can also be used with investment platforms or investment managers and offer the ability to invest outside of the normal range of permissible investments.
UK bonds generally only offer a fettered fund range available from the providers. This can cover a wide range of asset classes and fund types.
Are there any cost considerations?
The costs of an international bond generally are higher. There could be an initial charge, ongoing administration charges and usually a fixed quarterly fee that is reviewed annually.
There are also transaction fees when the provider is involved in switching between investments.
In contrast, the costs for UK bonds are usually lower and more transparent, involving a wrapper and a fund charge.
What about insurable interest?
Whether insurable interest is needed depends on the jurisdiction. For example, Isle of Man legislation does not include any requirement but the policyholder will need to provide death certificates.
For a UK bond insurable interest should exist at outset between the policyholders and the lives assured.
Summary
These are the fundamental questions around investing in a bond but they are by no means the only questions.
The needs of the client must be at the heart of the decision and you must take into account all of their circumstances.
Target market/Exit strategy
International
- Those who are planning to live or retire abroad. Those who will be non-UK taxpayers at the time of a chargeable event or encashment, or who will be taxable at a lower rate than currently.
- Individuals looking for wider asset classes for investment.
- Those who want to benefit from tax deferral by investing in a life fund free of UK income tax and capital gains tax.
- Trustees of a certain trust who want a simple-to-administer investment that does not produce an income.
- Investors who are looking for a capital redemption option where there are no lives assured, with the policy running for a predetermined term.
UK
- Individuals who are likely to remain UK resident while owning the bond.
- Those looking for a tax deferral.
- Those who are likely to be UK taxpayers at the time of any chargeable event. Trustees of a certain trust who want a simple-to-administer investment that does not produce an income.
- Those looking for dividend-producing investments could be attracted by the tax advantages and the tax credit on any gain.
- Those whose needs are satisfied by the fettered fund range and do not want their executors to have to obtain probate abroad.
- Those who are nervous of investing offshore and prefer the familiarity of a UK-based provider and the security this provides.
Policyholder’s protection
International
- This varies by jurisdiction. Holders of Isle of Man policies will be protected by the Isle of Man Life Assurance (Compensation of Policyholders) Regulations 1991. Should the company become unable to meet its liabilities, the scheme would meet up to 90% of the provider’s liabilities to its policyholders, with no maximum.
- Irish providers are authorised and regulated by the Central Bank of Ireland, which monitors their management and financial strength.
- Policyholders may be entitled to the UK Financial Services Compensation Scheme (FSCS), which currently covers 100% of the value of a valid claim.
UK
- Policyholders are covered by the FSCS. The FSCS is designed to pay compensation if a company is unable to pay claims because it has stopped trading or been declared in default. If the provider is unable to meet its liabilities, you may be able to claim compensation from the FSCS. Currently, 100% of the value of a valid claim is covered by the FSCS.
What is the policyholder’s taxation position if chargeable gain occurs?
International
- May use up any remaining personal allowance, starting rate band for savings and personal savings allowance. The balance of the gain will be taxed at the policyholder’s marginal rate of income tax.
- The whole gain sits in the client’s income tax calculation and could push any dividend income, in excess of the dividend allowance, into higher tax bands.
- Time apportionment relief may also be available to reduce any gain, subject to the qualifying conditions.
- Top-slicing relief may be available to reduce or eliminate any liability at higher or additional rate.
UK
- Chargeable gains have a 20% tax credit so there is generally no liability for a basic rate taxpayer.
- Higher rate taxpayers will be subject to tax of 20% and additional rate taxpayers subject to tax of 25% on the gain.
- The whole gain sits in the client’s income tax calculation after dividend income.
- Time apportionment relief may also be available to reduce any gain, subject to the qualifying conditions.
- Top-slicing relief may be available to reduce or eliminate any liability at higher or additional rate.
Further reading:
What you need to know about offshore bonds
By Kim Jarvis, technical manager, Canada Life
