New tax code on retirement

Newly_retired

Thanks for all your helpful comments. I'll look into all this.

EdInvestor

Hello jimmo

I wonder if you could give us a rundown of the way tax works inside investment bonds and other life fund invesments. There is much confusion about this, especially since the recent announcement about planned changes in CGT.

I understand gains within these life funds/investment bonds are subject to 20% insurance company corporation tax, is that correct?

How are different types of gains received within the fund treated eg dividends on shares and property funds, interest payments on cahs and bonds, gains in capital value of investments?

What about the additional taxes at the end the so-called chargeable events)?

TIA for any comments

EdInvestor

jimmo wrote: »

Newly retired,
Chargeable Event Gains (which are not Capital Gains) are chargeable to tax as an addition to your taxable income and are regarded as the top slice of your taxable income.

As you can see these bonds are very weird.What appears to be capital gains are actually treated as income tax wise. Whereas withdrawals from the capital (typically 5%) are "sold" to the punter as "tax free income".

At the same time the normal tax breaks on dividend income and capital gains don't apply, but the gains are taxed anyway on a corporate business basis.

dunstonh

As you can see these bonds are very weird.What appears to be capital gains are actually treated as income tax wise. Whereas withdrawals from the capital (typically 5%) are "sold" to the punter as "tax free income".

The "weird" bit you comment on can actually be highly tax efficient in the right circumstances and save significant tax. The longer the term held, the better top slicing relief is likely to be.

At the same time the normal tax breaks on dividend income and capital gains don't apply, but the gains are taxed anyway on a corporate business basis.

Wrong as per usual. Dividend income benefits from the same tax credit as unit trusts and there is no immediate liability for higher rate tax or it cannot take you into higher rate until you create a chargeable event. As long as you plan your chargeable events to be staggered over a few tax years or a time when you are no longer a higher rate taxpayer or close, you wont have to pay any higher rate tax.

The taxation on the bonds is under review by the treasury and is apparantly one of the few items in the pre budget report that is likely to be changed.

They can be useful for trust work as well. Just as was highlighted to that lady you told not to put the money in the bond as her adviser told her to as it was better that her adviser didnt earn a couple of thousand out of it but instead it was better for her to pay upto £200k instead in inheritance tax. Better to pay £200k to the tax man than £2k to an adviser who would save you paying that £200k in your eyes.

Your bias against this product is crazy. The extra tax paid is often offset against the lower charges the product has (when comparing like for like distribution channels). Plus the convenience of not having to worry about tax returns and creating chargeable events on fund switches and rebalancing is worth the small extra amount of tax to a lot of people.

jem16

EdInvestor wrote: »

How are different types of gains received within the fund treated eg dividends on shares and property funds, interest payments on cahs and bonds, gains in capital value of investments?

I assume you must have missed Dunstonh's posts in the investment board where he has explained this to you on numerous occasions?

Or did you not believe him?

dunstonh

It doesnt matter if she doesnt believe me. All the links to the sites explaining the taxation that have been posted in the past have been ignored as well (including the Standard Life one which Ed has linked herself before).

EdInvestor

This is what the Pru says, and I'm assuming they are in a position to know.

http://www.pru.co.uk/content/acrobat/INVS0002.pdf

Prudential pays tax on income and capital gains
accrued within its funds. HM Revenue & Customs
regards payment of this tax as equivalent to you
having paid Capital Gains tax and Lower/Savings rate
Income Tax, so you have no personal liability to Capital
Gains Tax or Lower/Savings rate tax on the proceeds
from your Bond. However, the tax paid by Prudential
is not reclaimable if you are a starting rate or non
taxpayer.

CHARGEABLE EVENTS
A liability to Higher Rate Income Tax may arise if a
chargeable event occurs and a chargeable event gain
or "profit", arises.

My point has always been this:

A basic rate or lower taxpayer need not pay tax on either dividends or capital gains if investing direct outside the bond, whereas he is forced to pay these taxes on both income and gains within the bond at a rate deemed to be the same as savings tax - 20%. In addition he is also potentially liable for additional HRT on chargeable gains.

This makes these bonds quite unsuitable for non-, low and basic rate taxpayers.With the new CGT rules reducing the tax from 40% to a flat rate of 18%, lower than the rate prevailing within the bond, they are now no longer suitable for higher rate taxpayers either.

Of course life assurance companies and banks are taking some 30 billion pounds worth of investment funds into these bonds every year, and they pay the highest commission to salesman of any product on the market.So you can understand why industry people fight tooth and nail to proclaim their benefits.

But the fact is that for most people they are a ripoff way to invest and should be avoided.

dunstonh

A basic rate or lower taxpayer need not pay tax on either dividends or capital gains if investing direct outside the bond, whereas he is forced to pay these taxes on both income and gains within the bond at a rate deemed to be the same as savings tax - 20%. In addition he is also potentially liable for additional HRT on chargeable gains.

Why not?

I would like to see how an investment of £200k avoids capital gains tax for a basic rate taxpayer with unit trusts.

The bond avoids higher rate tax by allowing you to defer it until you are not a higher rate taxpayer any more and a chargeable gain (which can be spread over multiple tax years with sensible planning) can avoid putting you into higher rate.

A £200k investment in unit trusts can put a basic rate taxpayer into higher rate as well depending on income. Someone aged over 65 earning £20,000 a year can save tax by using a bond instead of unit trusts as well.

Everyone is different with their levels of income and personal savings and investments. It is impossible to put all basic rate taxpayers into one pot and say it isnt suitable for them.

This makes these bonds quite unsuitable for non-, low and basic rate taxpayers.With the new CGT rules reducing the tax from 40% to a flat rate of 18%, lower than the rate prevailing within the bond, they are now no longer suitable for higher rate taxpayers either.

Too early to say. It has been confirmed that this is seriously being looked at by the treasury and may be one of only a few changes made to the pre-budget report. Expectation is that it will be equalised before the changes are made.

Of course life assurance companies and banks are taking some 30 billion pounds worth of investment funds into these bonds every year, and they pay the highest commission to salesman of any product on the market.So you can understand why industry people fight tooth and nail to proclaim their benefits.

As has been pointed out many times before, I am an NMA IFA. So commission levels dont make a single bit of difference to me personally as I get paid the same regardless of tax wrapper. I have also pointed out a number of times when its been bad to use the bond. However, I also point out the times its good. You just assume that its all bad by focusing on the disadvantages and totally ignoring the advantages and also compare unit trusts bought on execution only basis against bonds bought on maximum commission basis. Rather than like for like. Perhaps that is why my responses are more balanced than uses because the equalisation of the commission between unit trusts and bonds favours the bonds because that makes the charges lower on the bond which can offset the small amount of extra tax paid.

But the fact is that for most people they are a ripoff way to invest and should be avoided.

I dont think you should be quoting that as a fact when we all know that you cannot get your facts right when it comes to taxation of investments. Many of the regulars have posted a number of times that you are wrong with your tax comments.

The product has advantages and disadvantages like any other tax wrapper. It is suited to some individuals and not others. It is oversold and commission bias is a very good reason for that. However, that doesnt make the product bad. That makes the adviser in question bad. The extra commission works well for low cost advisers as it reduces the charges and increases the rebate.

jem16

EdInvestor wrote: »

With the new CGT rules reducing the tax from 40% to a flat rate of 18%, lower than the rate prevailing within the bond, they are now no longer suitable for higher rate taxpayers either.

Oh dear - changed your mind again.

As you said yourself, there are times when it is suitable.

EdInvestor wrote: »

Originally Posted by dunstonh
It all depends on the portfolio and what tax you are trying to avoid. As it stands, higher rate taxpayers investing in a varied portfolio with a large investment may well be best advised to use a bond for the high yield funds and use unit trusts for the low/no yield investments.

Agreed, but only if charges are very competitive on the bond, which is not usually the case.

roddydogs

HMRC is a nightmare if youve got more than 1 pension plus the State OAP
the seperate Tax offices dont communicate with one another-thats YOUR job still waiting to get mine right after 4 months