Under the spotlight: offshore investment bonds

An offshore investment bond has many features and benefits, this article aims to provide an overview of how these will affect P.

Exploring jurisdictions

The most commonly recommended offshore investment bonds are domiciled in reputable jurisdictions, maintaining access to a broad range of assets and investments. As a result of the strong fiscal governance of these jurisdictions, there can still be high levels of investor protection.

When choosing a suitable jurisdiction for an offshore investment bond, where P’s place of residence and its related available benefits can influence the selection process. 

At Rathbones we focus on offshore investment bonds that provide benefits for UK residents. The offshore jurisdictions we prefer are “over the water” and operate from the Isle of Man (IoM) or Ireland.

The Isle of Man is an established self-governing territory that is part of the British Crown and has offered offshore company registration services since the 1930s. 

Ireland is an independent, sovereign country that has developed its offshore services relatively recently, it is the fourth largest provider of wholesale financial services in the EU. The country’s robust regulation, skilled workforce and generous tax incentives explains why many financial services firms are based in Dublin.

Importantly, both jurisdictions require offshore investment bond providers to segregate policyholder assets from those of the provider’s shareholders. In this way, the investment bond provider cannot use the policyholder’s assets to support its financial position. 

In the unlikely event of the offshore investment bond provider becoming insolvent and unable to pay claims against it, policyholders would have priority over its assets – the only exception to this priority would be the expenses of winding up the provider. Despite this, it is important to undertake due diligence and we ensure our preferred offshore investment bond providers have all been rated B+ ‘Very Strong’ by AKG Financial Analytics Ltd. 

However, the departure of the UK from the EU has had implications for the investor protection available in Ireland, which will have a bearing on the suitability of the preferred jurisdiction, i.e., Ireland or IoM. The outcome of which will impact the VAT payable on investment fees, which are exempt in Ireland. Further discussions around this are required, to ensure these potential implications and consequences for P are understood.

Taxation

Regardless of the jurisdiction, the prominent features of an offshore investment bond remain the same. It is a tax wrapper that, for UK tax purposes, is treated as a non-income producing asset. When an investment bond is situated offshore, the growth within the offshore investment bond is not subject to tax in the UK. This allows monies to grow virtually free of taxes during the lifetime of the offshore investment bond (although there are ‘withholding taxes’ that are automatically deducted and cannot be reclaimed). Therefore, any income the underlying investments generate are rolled up within the portfolio without being immediately subject to income tax – this is referred to as “gross roll-up”. 

An additional tax-efficient feature of utilising an offshore investment bond is the ability to withdraw up to 5% of the amount invested (plus any top ups) each year. These withdrawals, known as the annual tax deferred allowance, do not attract an immediate tax liability for the investor and can be another useful income planning tool. Any unused allowance can be rolled over to future years until 100% of the amount invested has been withdrawn. 

However, there are certain events which trigger a chargeable gain, which could include, but are not limited to, partial surrenders, a full surrender, maturity and death. These chargeable gains are taxed at the time of the gain at the recipient’s marginal rate of income tax.

Furthermore, unlike monies held in an onshore portfolio which have no favourable tax wrapper and are commonly referred to as a ‘general investment account’ (GIA), offshore investment bonds are not liable to UK capital gains tax (CGT). The benefit of these products not paying CGT is that P’s investment manager has greater flexibility to adjust the investment strategy and the underlying holdings without incurring a tax charge, allowing P to keep more of their returns.

Flexibility

When establishing an offshore investment bond, it is important that the structure is correct at outset, as generally this cannot be changed further down the line. One of the primary considerations should be the number of policies (or segments) created. Set up correctly, the bond can provide the greatest flexibility of withdrawals and assignments in the future.

Another consideration is how the offshore investment bonds are established – this can either be on a life assured or capital redemption basis.

A single life assured bond established at outset will cease on the death of the life assured and a chargeable event will be incurred; although this can be mitigated by establishing a bond on a multiple life assured basis and the offshore investment bond would not automatically cease on the death of P but will remain in force until the last life assured dies. The other alternative is to use a capital redemption bond which has a 99-year lifespan (even if the original policyholder passes away). Each of these options provide flexibility for distributing funds to beneficiaries on death via assignments, avoiding any immediate tax charge that would ordinarily be created on surrender.

Investments

With recent developments in offshore investment bond products, the suite of investments available is largely comparable with a traditional onshore portfolio, which includes the option to allow a discretionary investment manager to structure the investment bond in the same way they would any other account type.

Traditionally, it would have been only purely collective investments that could be held in an offshore investment bond due to the personal portfolio bond (PPB) legislation*. However, a number of providers are now able to offer services that allow a discretionary manager to invest in direct assets alongside collectives, expanding the investment options beyond what has been previously available and potentially reducing associated investment fees and charges.

The rules around investments and PPBs are too involved to cover in this article, further discussions around this area are required to ensure these rules are not breached and any subsequent taxation implications are not invoked.

In summary

There are a number of financial planning considerations around the suitability of investment structures for P.

Additional fees will be charged by the offshore investment bond provider, which will increase P’s total cost of investment. These fees, along with the taxation situation and current regulation should be considered when assessing any potential benefits from an offshore bond and we recommend that financial advice should be taken around the suitability of the offshore bond for P. 

It is important to review the suitability of the structures annually, to ensure P’s evolving needs are dovetailed with the ever-changing taxation and regulation landscape. Annual financial advice will help manage the additional layer of tax complexity associated with an offshore investment bond.   

 A combination of offshore and onshore investment products can help P to optimise their settlement by taking advantage of different tax treatments. This allows a financial planner and investment manager to have some control around when and how much tax is incurred, making use of P’s various personal taxation allowances as and when they are available. This integrated financial planning and investment management approach aims to maximise the tax efficiency of the settlement, to help extend the sustainability of the settlement without taking any additional investment risk.

For discussions around any of the issues raised, please contact us directly via e-mail at RFPPSteam@rathbones.com  or speak to your usual Rathbones Investment Manager 

*PPB Legislation

https://www.gov.uk/hmrc-internal-manuals/insurance-policyholder-taxation-manual 

The information provided is based on our current understanding of legislation and tax practice and are subject to change. The value of your investment can go down as well as up and you may get back less than you invest. Tax rules depend on the type of investment and individual circumstances and may change.