Andy Marks discusses whether advisers are missing out on a valuable business opportunity by not using offshore bonds
Despite the continuing momentum in sales of offshore bonds, as many as 27% of advisers avoid using them. A further 20% say they do not know enough about offshore bonds to recommend them, according to the Defaqto 'Calmer Water' Offshore Bonds Report 2008.
However the advantages of offshore investing are clear - namely tax efficiency and estate planning flexibility. In fact in a recent survey by YouGov for The Hartford, 15% of consumers said that they would consider offshore bonds, rising to 34% if they had more control over their income and the ability to pass on wealth to dependents with an income guarantee.
So what is this valuable business opportunity advisers are missing out on, and why are half of advisers choosing to ignore it?
The advantage of an international bond over an onshore bond is that the international bond is based outside the UK, so the investment will grow virtually tax free.
The offshore advantage
Over the long term this could prove to be a valuable advantage.
The table (right) shows an example of how an international bond compares with an offshore bond over five, 10, 15, 20 and 25 years. For simplicity, charges have been disregarded and a growth rate of 7% gross per annum has been assumed.
In order to make this a fair comparison, we have assumed that a 20% tax charge is applied to the holder of the international bond on encashment and that the tax in the onshore bond is incurred at 15% annually. However, as you can see from the table, when investing over 15, 20 and 25 years an international bond can offer a distinct advantage.
When it comes to retirementplanning, international bonds again have their advantages.
As an international bond has an almost identical tax position (in the fund) to a pension, it could be an attractive addition to a portfolio of retirement assets. As well as virtually tax free growth, the investor also retains full access to the capital value.
What's more, should an investor subsequently decide to encash their international bond and reinvest into a UK pension plan, any tax liability will be offset by the availability of tax relief on the pension investment of up to 100% of the investors' earnings in that tax year, less any other pension contributions already made.
An international bond can also benefit those clients who have used their lifetime pension allowance. Of course they won't benefit from government contributions, but for those already up to the lifetime limit, an international bond could be seen as a valuable extension to this, especially since they will benefit from gross roll-up.
Twenty per cent of IFAs, researched as part of Defaqto's report, said that they didn't know enough about international bonds to recommend them.* Certainly it's true that for many IFAs, there are still a number of misconceptions surrounding offshore investing. For instance:
Myth 1. International bonds are often thought of as complicated and expensive. International bonds are no more complicated than their UK equivalent and the difference in cost, when compared to an onshore investment bond, is usually very small. What's more, any additional cost can often be offset by the tax advantages of an international bond.
Myth 2. International bonds are traditionally seen as an investment only for the extremely rich. Many international bonds allow clients to invest at lower amounts. For instance the minimum investment into the Hartford Diamond International Investment Bond is just £10,000.
Myth 3. International bond providers are located in exotic places like the Caribbean. International investment bonds are mainly provided by reputable UK or global life companies who have an administration office in a non UK centre, such as Dublin. For example, Hartford Life is based in Dublin and is regulated by the Irish Financial Regulator and covered by the Financial Services Authority as well as the UK Financial Services Compensation Scheme.
Broadening the message
As well as more IFA education, and heightened awareness as to the benefits of offshore investing, more can be done to dispel the perception that international bonds are not for the majority of investors.
As we've already mentioned, international bonds are ideal for tax control and estate planning. However the introduction of income guarantees, which can give people added peace of mind, could help to broaden the products appeal to a wider mix of IFAs and consumers alike.
*Defaqto 'Calmer Water' Offshore Bonds Report 2008
International Investment Bonds - The Basics
5% tax deferred withdrawals
An investor can withdraw up to 5% of the original investment each year without incurring an immediate tax liability. This is cumulative, so any unused allowance can be carried forward. Consider also that a higher rate tax payer would need to receive a gross return of 8.33% from a deposit account to receive a net return of 5% (8.33% x 60%).
Top slicing relief
This is only available to basic rate and non tax payers who become higher rate tax payers as a result of the gains from their bond. The gain is divided by the number of complete years the bond was in-force and the averaged (top sliced) gain added to their income. If the new level of income enables the investor to remain a basic rate tax payer, there's no more tax to pay. Any gain within the higher rate tax bracket is taxed at 20% and multiplied by the number of complete years the bond was held for.
Tax free fund switching
As any switch takes place within the life funds of the life company, no chargeable event occurs, which would otherwise require a report to HMRC.
Ideal investment for Trust work
An investment bond is a non-income producing asset. This means that the trustees will not need to complete a tax return each year unless a chargeable event is triggered.
Easy to administer
As investment bonds are classed as non-income producing assets, there's no requirement for HMRC reporting each year. This means investment bonds are easy to administer when compared to collective investments, such as unit trusts or OEICS.
As withdrawals of up to 5% per annum don't need to be reported to HMRC, these withdrawals are not included in the means test and do not affect some state benefits, including Age Allowance.
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