Tax implication on investment bond surrender

GreenTea2023

Hi there!

Trying to understand how much tax I need to pay. HMRC phonelines keep booting me out so trying here.

Gross salary: £35,500

Amount invested was £20,950 in Feb 2005
No other withdrawals or payments in
Surrendered the bond in Nov 2023, amount: £49,130

Linton

I assume this is a standard  on-shore investment bond as sold by Prudential and some similar well known companies…

With no previous withdrawals, when you withdraw the money the gain since purchase is potentially liable for income tax (not CGT). This is added to your income in the tax year but it is assumed that the standard rate tax has already been paid by the fund manager.

So taking your stated figures your gain is £28200 and so you could be liable for 20% higher rate tax on  £35500+ £28200 - £50270=£13429.

However it is considered unfair if taking the money in one tax year puts you into a higher rate tax band so a tax relief oddly known as “top slicing” comes into effect. Your gain is divided by the number of years you have held the bond giving in your case a value of £28200/~17= ~£1700.  If this figure does not put you into a higher rate tax band then the higher rate tax is not charged at all.

So you will have no tax to pay on your withdrawal.

Bobziz

@Linton And presumably if the £1700 did push the OP into the higher tax band in any individual years, then they would pay HRT only in those years not on the full £28,200 ?

Linton

Bobziz said:

@Linton And presumably if the £1700 did push the OP into the higher tax band in any individual years, then they would pay HRT only in those years not on the full £28,200 ?

No, all tax for standard investment bonds is based on the total gain (the £28000) since the bond was bought and the tax year in which you withdraw the money.. It may sound unfair but because of top-slicing generally works out reasonably for the amounts of money normally invested in such bonds and their typical % gains. But just as with pension drawdown you do need to be careful about when you cash-in.

It gets more complicated if you continually pay in and  make partial withdrawals, but in this case where the bond is bought and then not touched until it is all sold it is relatively straightforward.

dunstonh

Bobziz said:

@Linton And presumably if the £1700 did push the OP into the higher tax band in any individual years, then they would pay HRT only in those years not on the full £28,200 ?

Investment bonds work by allowing you to defer the tax calculation to a tax year of your choosing.  
e.g. if you are a higher rate taxpayer for 10 years and then becomes a basic rate taxpayer, you can create a chargeable event in that basic rate tax year and that is the year the tax is calculated.   Its irrelevant that you were a higher rate taxpayer in previous years.   As long as the gain after top slicing relief remains in the basic rate band, then that is fine.

Investment bonds are also segmented into policy segments.   So, an investment bond can be made up of say 100 policies.   You can surrender individual segments which would have no impact on the segments that remain.   In other words, any gains on those not being surrendered, doesn't go against your income.  Only the gain on the policy segments being surrendered.

Any withdrawals made under the 5% deferral allowance need to be added back on.

Offshore bonds are becoming more popular again because of the recent drops in dividend allowance and CGT.   Onshore bonds not so much.

Bobziz

Thanks @Linton & @dunstonh So my mother has an onshore investment bond with the Pru which she has held since 2000. She's been at basic rate for all years except this one and the next two, where she'll have an income of about £54k as a result of the interest that she's getting on her fixed rate savings bonds. She'll likely return to being a basic rate payer after her savings bonds mature in two years. However, she's in the last years of her life and likely to pass within the next two years. Consequently it's sounds like she'll end up paying a hrt on all of her investment bond gains. Is this a correct reading ? Many thanks and apologies for hijacking your thread @GreenTea2023

Linton

Bobziz said:

Thanks @Linton & @dunstonh So my mother has an onshore investment bond with the Pru which she has held since 2000. She's been at basic rate for all years except this one and the next two, where she'll have an income of about £54k as a result of the interest that she's getting on her fixed rate savings bonds. She'll likely return to being a basic rate payer after her savings bonds mature in two years. However, she's in the last years of her life and likely to pass within the next two years. Consequently it's sounds like she'll end up paying a hrt on all of her investment bond gains. Is this a correct reading ? Many thanks and apologies for hijacking your thread @GreenTea2023

Yes, if your mother is a higher rate tax payer from other income when she fully cashes-in her investment bond she will be charged the 20% higher rate component on the overall gains,  There is no way to avoid this.  Is there any danger she will exceed the higher rate band?

£54k of savings interest sounds an enormous figure. Are you sure it is right? Aren’t those savings taxable each year?

Bobziz

Thank you Linton, much appreciated.

Linton said: Is there any danger she will exceed the higher rate band?

amount invested £21k, current value £79k, amount withdrawn £13k, so gain currently £71k + £20k pension + £ 37k savings interest= £128k, so yes she will exceed the higher rate. 

£54k of savings interest sounds an enormous figure. Are you sure it is right? Aren’t those savings taxable each year?

As above savings will be £37k and will be taxable. Her finances are managed via POA. Sounds like her savings should have been invested in a savings bond with a lower interest rate such that she would have stayed below the higher rate band.

dunstonh

Bobziz said:

Thanks @Linton & @dunstonh So my mother has an onshore investment bond with the Pru which she has held since 2000. She's been at basic rate for all years except this one and the next two, where she'll have an income of about £54k as a result of the interest that she's getting on her fixed rate savings bonds. She'll likely return to being a basic rate payer after her savings bonds mature in two years. However, she's in the last years of her life and likely to pass within the next two years. Consequently it's sounds like she'll end up paying a hrt on all of her investment bond gains. Is this a correct reading ? Many thanks and apologies for hijacking your thread @GreenTea2023

Is inheritance tax likely on her estate?   (investment bonds can be assigned to new owners and if they then surrender the policy, then its on their taxation, not the original owner.  However, if estate is subject to IHT, it would still be included - although become a PET)

If IHT is likely, then she could consider gifting.   She has a high income for a retired person.  So, gifts from income could be a way to reduce the impact.

When it comes to the year of death, allowances are not reduced pro-rata.  i.e. if she died in May, then she still gets the annual allowances even though its just one month into the tax year.    So, surrendering the bond now and paying higher rate tax vs leaving it on the chance that she may die earlier in the year and have lower income and therefore no tax would seem to be a better option if gifting/assignment is not a suitable option.

Bobziz

Thanks Dunstonh. I suspect the assignment or gifting options may fall foul of the POA requirements re acting in her best interest? Guidance is very strict on gifting. There are 3 attorneys and assignment would need to be to one of them.

Mums estate won't be subject to IHT.

dunstonh

Thanks Dunstonh. I suspect the assignment or gifting options may fall foul of the POA requirements re acting in her best interest?

Is money exchange a possibility if funds are available?  e.g. assign the bond and pay the cash equivalent back.

Does the  bond really need to be surrendered?  - leaving it until death may be simpler.