Insurance Investment Bond Top Slicing Gains Relief

In another video we have already explained the structure, pros and cons of lump sum insurance investment bonds.  We also explained why insurance investment bonds are our favourite lump sum investment product.

See: Insurance Bonds

We now take a more in depth look at the taxation of gains on an insurance bond and top slicing relief.  As a reminder:

Tax Rules for Life Insurance Investment Bonds

• Onshore Bonds: Life insurance investment firms do pay some taxes on the gains in the life insurance investment fund, but after expenses this could be around 10-14% but this then presents advantages for taxpayers with some taxes already deemed paid.
• Offshore Bonds: Life insurance investment firms do not pay taxes on the gains in the life insurance investment fund meaning faster (we hope) ‘gross roll-up’ growth but there are no tax breaks for taxpayers as no taxes have been paid by the fund.
• You can also withdraw up to 5% per annum of the original investment without creating any immediate tax liabilities.
• You can defer taking 5% pa and it rolls up.  E.g.  If you make no withdrawals for 5 years or 10 years, you can withdraw up to 25% (5 x 5%) and 50% (10 x 5%) of the initial investment without an immediately liability to tax.
• You can withdraw more than 5% pa, but this may then be a chargeable event subject to tax.  See top slicing tax calculations below.
• If you withdraw 5% pa of the original investment each year over 20 years you have then withdrawn 100% of your original investment amount back and the remaining balance is your capital growth.
• When you start to take part of the gain as withdrawals then you may be subject to taxes as follows using Top Slicing.

Top Slicing Relief

• The total gain (not the original capital) withdrawn is divided by the number of years you have held the investment (think of it as the ‘profit per annum’).  This is the ‘Top Slice’

• E.g., you make a partial encashment from your bond of £20,000 of which £10,000 falls within the 5% of original investment rules and £10,000 is excess over 5% rule i.e.  it is a chargeable gain.
• If you have had the bond for 10 years, £10,000 chargeable gain divided by 10 years = £1,000 pa profit (the Top Slice).
• The Top Slice is then added to your income to establish where the gain sits within your tax band and hence what tax is payable.

Example 1: £100,000 invested ONSHORE Bond (UK)

• Original investment £100,000 in bond and it has grown by £20,000 to £120,000 over 10 years, no withdrawals made by you within this period. 
• You wish to withdraw/cash in 50% off the whole value of the bond i.e., £60,000.

ONSHORE Bond Top Slicing Taxation on £60,000 Withdrawal

• 5% pa of original investment £100,000 = £5,000 X 10 years = £50,000 (deemed the amount of original investment withdrawn)
• Total withdrawal is £60,000 meaning £50,000 original capital withdrawn (no taxes) plus £10,000 profit/gain.
• Top Slice (profit per annum) = £10,000/10 years = £1,000pa Top Slice.
• Remember 20% basic rate income tax is deemed as paid as tax is deemed paid by the insurance company fund already.

• 20% Basic Rate Taxpayer: £1,000 top slice profit pa is added to income, if this is still within basic rate tax band, there is no liability to tax on the whole £10,000 gain as 20% Basic Rate Tax is deemed paid.
• 40% Higher Rate Taxpayer: £1,000 top slice profit pa is added to income, if this is above the basic rate tax band, there is a tax liability to tax on the whole £10,000 gain at 20% marginal rate (as 20% Basic Rate Tax is deemed paid) = £2,000 tax to pay.
• 45% Higher Rate Taxpayer: £1,000 top slice profit pa is added to income, if this is above the higher rate tax band, there is a tax liability to tax on the whole £10,000 gain at 25% marginal rate (as 20% Basic Rate Tax is deemed paid) = £2,500 tax to pay.
• Note:  if any of the top slice profit pa is spread over two tax bands then any taxes payable will be in proportion to the amount of gain in that band.

Example 2: £100,000 invested OFFSHORE Bond (e.g.  Isle of Man) 

• Original investment £100,000 in offshore bond and it has grown by £30,000 to £130,000 over 10 years (£10,000 more growth than the onshore bond as no taxes paid internally by the fund), no withdrawals made by you within this period. 
• You wish to withdraw/cash in 50% off the whole value of the bond i.e., £65,000.

OFFSHORE Bond Top Slicing Taxation on £65,000 Withdrawal

• 5% pa of original investment £100,000 = £5,000 X 10 years = £50,000 (deemed the amount of original investment withdrawn)
• Total withdrawal is £65,000 meaning £50,000 original capital withdrawn (no taxes) plus £15,000 profit/gain.
• Top Slice (profit per annum) = £15,000/10 years = £1,500pa Top Slice.
• Remember No Tax has been paid by the fund for an offshore bond as its profit is ‘gross roll-up’ with no tax deduction meaning all gain is taxable.

• 20% Basic Rate Taxpayer: £1,500 top slice profit pa is added to income, if this is still within basic rate tax band, 20% tax is payable on the whole £15,000 gain (as no tax deemed paid) = £3,000 tax to pay.
• 40% Higher Rate Taxpayer: £1,500 top slice profit pa is added to income, if this is above the basic rate tax band, 40% tax is payable on the whole £15,000 gain (as no tax deemed paid) = £6,000 tax to pay.
• 45% Higher Rate Taxpayer: £1,500 top slice profit pa is added to income, if this is above the higher rate tax band, 45% tax is payable on the whole £15,000 gain (as no tax deemed paid) = £6,750 tax to pay.
• Note:  if any of the top slice profit pa is spread over two tax bands then any taxes payable will be in proportion to the amount of gain in that band.

Higher Rate Taxpayers;  Insurance Bonds v Shares/General Investment Accounts (GIA)

• Onshore Bond Gain Taxation: Basic Rate Taxpayer 0%, Higher Rate Taxpayer 20%, Additional Rate Taxpayer 25%.
• Offshore Bond Gain Taxation: Basic Rate Taxpayer 20%, Higher Rate Taxpayer 40%, Additional Rate Taxpayer 45%.
• Shares/GIA Gain Taxation:     Basic Rate Taxpayer 10%, Higher Rate Taxpayer 24%, Additional Rate Taxpayer 24% plus

• Shares/GIA Dividend Taxation:   Basic Rate Taxpayer 8.75%, Higher Rate Taxpayer 33.75%, Additional Rate Taxpayer 39.35%.
• Shares/GIAs also have the benefit of a capital gains tax annual allowance and the tax-free dividend allowance although both have been reduced significantly over the last few years.

UK Onshore bonds appear favourable for all taxpayers now rather than Offshore bonds or Shares/GIAs although Offshore bonds may also be favourable given growth may be higher as there is no tax payable by the fund on growth so investors benefit from ‘gross roll-up’.  We suggest, many investors should have a spread of all these to take advantage of tax breaks that are available for each product.

Fees for Investment Portfolio Advice: Investment

See Linked Videos:

Insurance Bond Assignment  Bonds v Collectives  IHT Loan Trust  IHT Discounted Gift  Bonds on Death  Care Fees Capital Not Means Tested

Other useful links:

Contact  Call Back  Calculators  Our Fees