Uncertainty surrounding the future of the bonds market - sparked by Chancellor Alistair Darling's plans for capital gains tax (CGT) - is misguided, providers say.
Zurich and AEGON say proposals to change CGT to a flat rate of 18% have been misunderstood, arguing for some investors bonds will remain the most attractive products in the market.
One of the advantages of bonds over shares is that CGT does not apply to gilts and conventional bonds.
Some economists are arguing by reducing the CGT rate the appeal of bonds is negated and could lead to a significant problem for the fixed income market.
But Paul Wright, investment management director at Zurich, says this isn’t necessarily so.
“The changes to capital gains tax announced in the pre-Budget report have been misunderstood by some, creating confusion about the continued suitability of investment bonds for certain investors,” he says.
“Whilst we endorse the Chancellor's intention to simplify capital gains tax, we believe that the way in which the announcement has been subsequently interpreted is unfortunate, and not in the interests of potential investors, the intermediary market or indeed the wider investment industry.”
Wright says a reduction in CGT from 40% to 18% does not, in reality, represent as big a cut as it first appears.
He points out higher rate tax payers with mutual funds would have incurred 40% capital gains tax only if they had bought and sold their investment within a two year period, and only on gains exceeding their CGT exemption.
He adds as investment bonds and mutual funds are traditionally medium to long-term investments, the difference in tax payable in the long term was not materially different.
Wright also says while indexation relief was previously available to mutual fund investors and replaced by taper relief, life funds never lost the benefit to index gains within their funds.
He adds that, unlike mutual funds, fund switching is often free with investment bonds and with no disposal for CGT, allowing portfolios to be re-balanced more efficiently.
As non-income producing assets, he adds, allowing annual 5% tax deferred withdrawals, bonds are also ideal as trustee investments.
Margaret Jago, offshore technical manager at AEGON, adds: “Basic rate taxpayers holding directly-invested assets in the medium to longer term are actually worse off under the proposed new CGT rules.
“This is because under the current rules they would have seen their CGT rate fall from 17% after owning an asset for five years to 12% after 10 years compared to the proposed 18% rate.
“This worsening position means that in circumstances where bonds were already perceived as appropriate for basic rate investors they will continue to be appropriate.”
Jago adds it is important to remember many of today’s higher rate taxpayers may be basic taxpayers when they retire.
“This is an important point, because it means that often the eventual tax liability on an investment bond will be at 20% and not at 40%,” she says.
In addition, Jago says, where offshore bonds are being used tax deferral remains attractive.
She says direct investors have annual income tax liabilities on the income generated by their investments “so it is only the tax on the capital gains part of their overall return that will be charged at the proposed rate of 18%”.
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