Top slice onshore bond advice

Waggydog1

Hi

I would be grateful if anyone could give advice about top slice deductions on chargeable gains.

My elderly mother has 2 onshore bonds that I have just came across the paperwork for. Unfortunately the financial advisor who set these up has retired long ago and I have no experience of anything like this.

The main bond is Prudential Optimum Bonus WP3. The original investment was mum's pension tax free lump sum of £50000.

The bond was opened 14 years ago and no 5% per year deductions have been made. The fund is valued at £90000.

No further funds have been added to the account. There are 20 segments in this bond. I have been told mum can take £35000 tax free from the original deposit.

The second bond is Aviva AV with profit S1. This bond was opened 25 years ago with £10000. No further money has been added and the bond is now valued at £29000.

No 5% deductions have been made and we have been told mum can take out £10000 tax free leaving a taxable gain of £19000.

I am not sure if taking the backdated 5% sums out the bonds are actually tax free or tax deferred.

Mum is a basic rate taxpayer who has been retired since 2011. Her gross pension and state pension currently amount to £29000 and she doesn't complete a tax return. Mum has not had any other employment since her retirement.

My mum has no immediate need for this money but being in her late 70s we are keen to ensure there's no tax liability in the event of her death if possible or at the very least to do what we can to minimise any tax.

I have been told both bonds could be assigned to family. I am not sure if that's a good idea or not. I don't actually know how well they have been performing.

It has been suggested they could be split between siblings. I was told the 20 segment bond could be split between 2 people at 10 segments each. I then seen some conflicting information saying rather than taking money out of all segments it may be an advantage to close some segments fully.

My father is a basic rate taxpayer and only receives £12000 state pension with no other income. I assume the bonds could be assigned to him.

If the bonds are surrendered due to her passing the chargeable gain will push her into the higher tax bracket.

We stay in Scotland and the higher tax bracket starts at £43663 however I think I read bonds are dealt with at the UK higher tax rate?

Could anyone help with a top slice calculation? Ideally the bonds could stay in my mother's name until her passing but we are not adverse to assigning to my father or surrendering the bonds in different tax years if that makes financial sense. Perhaps taking out as much as possible this tax year and next and moving money to both parents ISA's.

Any help would be appreciated.

dunstonh

I have been told both bonds could be assigned to family. I am not sure if that's a good idea or not. I don't actually know how well they have been performing.

Its a good idea if its the right thing to do based on circumstances.

. Perhaps taking out as much as possible this tax year and next and moving money to both parents ISA's.

What would that achieve? (other than lower returns)

Is she at risk of needing care in the future?

Waggydog1

https://forums.moneysavingexpert.com/discussion/comment/81975029#Comment_81975029

She would ideally like to leave it to her sons. However one is a higher rate taxpayer so I would assume that would mean anything drawn from the bond will pay more tax.

Wouldn't it be better to have the money available to then do as we please? Such as invest in an isa or sipp.

The idea behind switching it to my dad was I assumed as he only earns 12k per year that he could withdraw more while staying in the 20% tax bracket and given that 20% tax has been paid already there would be no charge.

I may have misunderstood bonds completely so if way off the mark I apologise.

No care needs at the minute or on the horizon. Its not to try and avoid future care costs it was more its unlikely that she sees out the 20 years on the bigger bond (6 years to go).

Assumed perhaps incorrectly that 120k between the 2 bonds would be taxed at a further 20% as would take her into the higher tax bracket. Then I seen top slice relief and I wondered if that applied and it could be backdated these last 14 years.

dunstonh

Wouldn't it be better to have the money available to then do as we please? Such as invest in an isa or sipp.

Better for whom? The mother or the sons?

The idea behind switching it to my dad was I assumed as he only earns 12k per year that he could withdraw more while staying in the 20% tax bracket and given that 20% tax has been paid already there would be no charge.

20% tax hasn't been taken already. it is treated as basic rate tax paid but that doesn't mean 20% has been deducted internally. Onshore bonds still get some reliefs and the internal taxation is typically closer to around 13%.

No care needs at the minute or on the horizon. Its not to try and avoid future care costs it was more its unlikely that she sees out the 20 years on the bigger bond (6 years to go).

Invesment bonds are not included in any means test, Hence the mention on that point.

Assumed perhaps incorrectly that 120k between the 2 bonds would be taxed at a further 20% as would take her into the higher tax bracket. Then I seen top slice relief and I wondered if that applied and it could be backdated these last 14 years.

Easily avoidable from what you have said.

However, remember that these products have levels of capital security that are not available today and dependng on which version held, they can be low cost (much better than the modern versions). Plus, the returns for cautious investing have been very good. So, changing the tax wrapper may look attractive on paper but not necessarily a good idea in reality.

Waggydog1

https://forums.moneysavingexpert.com/discussion/comment/81975137#Comment_81975137

Sorry I don't know how to reply to each separate part.

My mum has various isa's and these bonds. She does not need the money to fund her chosen lifestyle. When she retired she told the financial advisor that she wanted low risk tolerance. Other than that she knows nothing about these products (either do I but trying to learn).

She was annoyed to think that when the unfortunate time comes that a chunk would be taken in tax (we were unaware of this 13% you mention). She incorrectly assumed that her 50k tax free lump sum from her pension would still be tax free.

I was also unaware bonds are not considered for care home calculations however if there is a care home need she would like one of the nicer homes which will cost far more than she has saved.

From what i have mentioned what would be the best way to avoid tax?

As for fees I know the aviva bond is 1% per year. I have no idea on the prudential bond. I assumed the returns were less than stocks and shares etf such as vwrp which i plan to start investing in myself, currently cash isa only.

There will be no inheritance tax issues in the future as considerably under the threshold.

poseidon1

You are correct that limiting withdrawals from an investment bond to 5% for the first 20 years, those withdrawals are merely tax deferred, with a potential sting in the tail in year 21 onwards when the tax deferred may become assesseable depending on what ( if any) is left of the policy holder's basic rate tax band when a chargeable event arises.

In view of your observations on options available at this time, I would be inclined to suggest the following:

1. Your mother takes her £35k tax deferred withdrawal from Prudential bond ( no taxable event) and consider taking her future 5% withdrawals annually for the 6 years thereafter ( again no tax). Proceeds then invested in ISAs as suggested below. At year 21 (or earlier) your mother considers assigning part or all of the remaining bond to your father, in view of his greater basic rate tax headroom.
2. With regard to Aviva bond, in this case suggest she assigns ownership of the entire bond to your father. He then considers encashing entirely ( £29,000) in the expectation that the topsliced gain is wholly within his ( UK) savings basic rate tax band and therefore no tax liabilty arising thereon.

If neither of your parents have been using their ISA allowances ( £40k jointly for this current year ), stocks and shares ISA to partially replicate the investment bond assets should give a better tax free return, given the investment bonds do suffer an internal rate of taxation at 20% ( rising to 22% in future years) on all underlying investment gains and income, which inevitably drags on performance - following article explains

https://www.transact-online.co.uk/technicalcentre/onshore-bond-internal-rates-of-tax/#:~:text=These%20proposed%20and%20potential%20changes,until%20a%20chargeable%20event%20arises.

If your parents have no need of the resulting cash, can always gift to you children ( or grandchildren if any ) to do with as you please.

In any event, getting to the point where neither parent is holding the bonds, and instead have stocks and shares ISAs ( if desired ), is a simpler and more tax transparent outcome for all concerned both during their lifetimes and eventually on death.

I would add, I have no objection to investment bonds as such, since they can be useful in certain tax planning scenarios for higher tax payers, some trusts and more generally inheritance tax planning. However, these bonds do come with a weight of potential tax complexities which is often not properly explained by the advisers selling them.

Waggydog1

https://forums.moneysavingexpert.com/discussion/comment/81975164#Comment_81975164

Thank you for the detailed advice. Would I be correct in thinking if my dad encashes the aviva bond but remains under the higher tax allowance that he would not have to submit a tax return?

They have not used this year's ISA allowance. I had planned to use cash ISAs however they do have stocks and shares isa's that were opened around the same time as the bonds so I could add to these instead. They have performed quite well despite higher fees. I wasn't sure at their age if stocks and shares would still be advisable.

I had read that in the event that one of them passed on that the other can have an additional permitted subscription so I felt ISAs are more straight forward in this case.

poseidon1

https://forums.moneysavingexpert.com/discussion/comment/81975204#Comment_81975204

Interesting question re your father avoiding self assessment. HMRC will obviously be aware of his non taxable status in view of the only taxable source being his state pension.

However, it is just possible that the chargeable event certificate issued by Aviva with copy to HMRC could result in HMRC issuing a self assessment notice, for no other reason than to make sure there are no other new sources of taxable income for your father that may have arisen.

However with only a couple of entries to make on such a tax return, it should not be a particularly onerous undertaking, and hopefully a one off when HMRC sees the paucity of items reported therein.

As with regards S &S ISAs , as long as you feel the usual 5 year investment horizon is suitable given their age, see no reason why they cannot add new funds to what they have or alternatively consider lower risk government gilts which have been attractively priced of late. It is helpful in this regard that each can inherit the other's ISA on death.

dunstonh

She was annoyed to think that when the unfortunate time comes that a chunk would be taken in tax (we were unaware of this 13% you mention). She incorrectly assumed that her 50k tax free lump sum from her pension would still be tax free.

When she bought the product, the investment bond was the next most tax-efficient option after an ISA. Only 11,280 could go into an ISA in 2012.

Her annoyance is therefore misplaced.

From what i have mentioned what would be the best way to avoid tax?

You are focusing too much on tax. The WP funds have generated very good returns at low risk. You compare that to bonds and gilts over the same period, then they have provided less. A tiny bit of tax is irrelevent to the total return.

As for fees I know the aviva bond is 1% per year. I have no idea on the prudential bond. I assumed the returns were less than stocks and shares etf such as vwrp which i plan to start investing in myself, currently cash isa only.

The returns in recent history will be lower than VWRP but the risk level is very different. The WP funds cannot lose 50% of their value in 12 months. VWRP can. If the intention is to go up to the gung ho end of the risk scale, then that is fair enough and a change would be necessary (although the Aviva bond does have around 100 funds available to select from - so if a full surrender needs to be staggered, a fund switch would be possible).

They have not used this year's ISA allowance. I had planned to use cash ISAs however they do have stocks and shares isa's that were opened around the same time as the bonds so I could add to these instead. They have performed quite well despite higher fees. I wasn't sure at their age if stocks and shares would still be advisable.

Leaving them in the bonds would likely be better than surrendering to move the money into cash ISAs.

If the risk level of the S&S ISA would be similar, then leaving them in the bond could be better because, as mentioned above, the taxation on the bond is so small and the WP funds handle cautious investments very well. If the intention is to go up the risk scale, then, that is fair enough. But would your mum be able to understand a circa 50% loss when it comes along?

Waggydog1

https://forums.moneysavingexpert.com/discussion/comment/81975463#Comment_81975463

That's a very interesting point about the ISA allowance back in 2011. I hadn't taken into consideration. I had looked at a historical calculator for the s&p500 and felt the bond had not performed well. My mum will be glad to know it was a good choice at the time.

It appears that the Prudential bond has actually fared well up 78% in the last 10 years.

The Aviva bond however has only went up 2.8% in the last 5 years. I know Aviva are charging 1% fees but no idea on Prudential.

I now think more research is needed on the Prudential bond.

The Aviva bond I think as well closing it and putting the cash into cash isa getting 4.62%. Unless you can offer a better suggestion.

With the Prudential bond when the unfortunate time comes is transferred to a family member without having taken the 5% allowance backdated does this also transfer to the new owner?

If the cash isn't needed it's perhaps best leaving the 35k in the pot to gain more interest.

I could see a point in the future where this bond could potentially be a valuable resource with a plan for early retirement a few years before a pension is due.

Can you add to the bond? For example I have filled my cash ISA allowance the last few years (I know I'm missing out not doing stocks & shares) I also fill a savings account to save the next years ISA allowance and make use of the PSA.

Would paying into the bond be a better option than a GIA once the ISA and savings allowance are exhausted?

Thank you

dunstonh

That's a very interesting point about the ISA allowance back in 2011. I hadn't taken into consideration. I had looked at a historical calculator for the s&p500 and felt the bond had not performed well. My mum will be glad to know it was a good choice at the time.

S&P500 is not a good thing to look at when comparing cautious investments.

Indeed the decade between 1st Jan 2000 and 31st Dec 2009, would have seeen the values lower on the S&P500. And indeed from the start of the millenium to 2012, it would have been flat. The recent boom is not typical.

It appears that the Prudential bond has actually fared well up 78% in the last 10 years.

yes, these are little gems for cautious investors. Its one of only a few that I still keep clients on. The rest have been moved to ISAs and pension over the years.

Pru stopped offering it in that form and their modern version is nowhere near as attractive to consumers. Hence my posts erring in that direction.

The Aviva WP fund is not as attractive, in my opinion. However, some of the portfolio bonds, whilst having a default charge of 1%, can actually be cheaper than that due to discounting.You can't rely upon the fund fact sheet to give you the accurate charge.As that assumes default. I've seen many in the 0.5 to 0.7 range and not the 1% default.

With the Prudential bond when the unfortunate time comes is transferred to a family member without having taken the 5% allowance backdated does this also transfer to the new owner?

It can either be surrendered by the executor or assigned to one or more beneficiaries. example: if assigned to four beneficiaries with a 25% share each and then surrendered, the gain will be divided by four and treated under the beneficiaries' tax position.

Can you add to the bond? For example I have filled my cash ISA allowance the last few years (I know I'm missing out not doing stocks & shares) I also fill a savings account to save the next years ISA allowance and make use of the PSA.

Now that product is closed for new money.

Would paying into the bond be a better option than a GIA once the ISA and savings allowance are exhausted?

The GIA would be subject to dividend tax, capital gains tax, and potentially tax on interest. Given the reduction in dividend allowance and capital gains allowance and the increase in dividend tax, investment bonds are back in fashion again.

I could see a point in the future where this bond could potentially be a valuable resource with a plan for early retirement a few years before a pension is due.

Yes, that would work. And as I mentioned, for the cautious part of the portfolio, it could fit in there nicely.