Offshore Bonds Overview
An investment bond is a single premium life assurance policy used for tax efficient investment purposes. As the assets within the bond are assigned to the life assurance firm, they are out of the policy holders estate for taxation purposes. Similar to a trust, an investor can place their assets within an investment bond, and in most cases there is little or no taxation within the bond. The lack of income or capital gains tax within the wrapper can provide gross-rollup, or growth on income that would normally be taxed. Some common key features :

  • 5% per annum can be withdrawn without taxation (considered withdrawal of capital)
  • Reduced taxation on growth within the bond
  • Withdrawal of any growth can be deffered to a later date. So taxation is deffered.
 
Investment bonds are not free, and it is important to assess the cost of the bond against the potential benefit of the wrapper. It is common for assets such as Structured Notes, Funds, Commodities, and Currencies to be held as the underlying assets.
Guide to Offshore Bonds
Careful tax planning should form the basis of a financial review and investing offshore is one way in which tax efficiency can be maximised. However, it should not be viewed as a way in which investors can shelter money away from tax. Taxation is merely ‘deferred’ until a later date, usually drawdown or encashment. In this respect assets can grow tax efficiently
 
Offshore bonds can be useful in a number of circumstances :
 
High Rate Tax Payers
 
Offshore bonds can be very useful for wealthy clients who have already exhausted other tax efficient savings vehicles, such as pension allowances and ISA allowances (if in the UK). Some higher rate taxpayers may expect to pay a lower rate of tax in the future, at a time when they plan to take the proceeds from their investment, by deffering taxation benefits can be achieved. There is the option to assign the bond to another individual who pays a lower rate of tax (or no tax) to help to reduce the overall liability.
 
University fees planning
 
As part of university fees planning, parents can invest tax efficiently into an offshore bond and assign this to their child when they go to university. As students do not usually pay tax, no tax will be payable in most instances. Offshore bonds are often overlooked for this specific objective.
 
Those spending time overseas
 
An offshore bond may also be beneficial to clients that are likely to be resident abroad for some of the investment period, as the UK tax regime allows the years of non- residence to be excluded for tax calculation purposes. Furthermore, using funds with ‘non distributor’ status allows foreign nationals to hold their worldwide investments in a way that does not generate annual income or an IHT liability, enabling them to have some flexibility and control over the timing and amount of any tax charge charged. The annual 5% tax deferred withdrawal of capital facility also does not count as ‘income’ for these individuals.
 
Individuals retiring abroad
 
For those who are planning to live or retire abroad, consideration must be given to the country in which they are planning to move. Whilst UK tax may be avoided on policy gains, local tax may be applied. Unlike the UK, most foreign countries tax life policy gains irrespective of whether the policy gains are ‘rolled up’ gross or are in a taxed fund. It is therefore important not to put too much emphasis on future plans without definitive evidence showing the actual likely advantages to the client. This can be done by checking with a specialist tax professional in the UK, or an overseas tax adviser in the other jurisdiction.
 
Onshore v offshore comparisons
 
All other things being equal, the compounding effect within an offshore bond (given that tax is not regularly deducted) should result in greater growth. But the advantages of ‘gross roll up’ gains on offshore bonds can be more illusory than truly beneficial. There are several factors that reduce (or can quite easily cancel out) these advantages. It is worth noting that offshore bonds are likely to use higher projection rates to reflect the absence of tax paid within the fund. But it is the post tax situation that will determine the most beneficial outcome for the client.
 
Effects of withholding tax
 
Offshore jurisdictions can impose a withholding tax on income generated within the fund. The purpose of the withholding tax is to collect tax at source in circumstances where it might otherwise be difficult to collect, as well as to combat tax evasion. The amount deducted depends on the jurisdiction in which the bond is based. Also, jurisdictions tend to vary the amount withheld according to the underlying assets, for example, different rates may apply to both interest and dividend income. Withholding tax can have the effect of reducing the tax advantages and in some circumstances it can introduce an element of ‘double taxation’. So the bond’s funds should not be reffered to as ‘tax-free’ if withholding tax is being applied. Given the various rates of withholding tax applied by different jurisdictions; and the ways in which these interact with double taxation agreements held with HMRC, the situation as regards withholding tax can be complex.
 
Product charges
 
In addition to the differences in taxation, product charges should also be a main consideration when deciding whether or not to consider an offshore bond. The charges on offshore bonds are generally more expensive than onshore investments. This is because, unlike onshore bonds, the expenses within offshore funds cannot be offset against the taxation, as there is no internal tax to offset them against. In addition, the costs associated with running an offshore fund can be a lot higher than running an onshore fund. Because of this, benefits of gross roll up are reduced (and could quite possibly be cancelled out) for those offshore plans that carry higher charges. Reduction in yield figures can offer a reasonable comparison of charges for both onshore and offshore bonds, but you must remember that such a comparison is of little use if the tax position has not been fully considered. The combination of likely tax and product charges is ultimately going to determine whether or not an offshore bond will be the most beneficial contract for the client.
 
Investor Protection
 
The compensation and investor protection situation for offshore bonds can be complicated. Some contracts may be covered by the FSCS but otherwise, compensation and regulatory protection in the bond’s country of domicile can be extremely limited and may not exist in some cases.
 
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Offshore bond review and report
We have teamed up with a leading expatriate advisory firm, who can offer an offshore financial review at no cost or obligation. The report is designed to highlight the offshore products in the market and how they may be applied to your investment goals and attitude to risks. The report takes into account :
 
  • Investment goals (e.g. purchase new car)
  • Investment timescale
  • Fiscal residency
  • Taxation reduction
  • Attitude to risk (cautious, balanced, adventurous investor etc.)

This can be a useful tool as an introduction to investing offshore.

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