For many years investing into an insurance bond has proved a tax-efficient way of generating an income while investing for growth. As an example, up to 5% of the amount invested can be withdrawn tax-free each year as an ‘income’, leaving the profit to be taxed at a later date when perhaps the investor is taxable at a lower rate of income tax. These rules might be set to change.
Criticism has been levelled at life insurance bonds for many years because the tax rules governing them are complex and can produce unfair results. For example if the 5% ‘allowance’ previously referred to is withdrawn, the balance is taxable irrespective of the value and performance of the investment itself. This disconnect between the tax rules and the economic reality was brought home starkly in a recent tax case which has in part led to the launch by HMRC of a consultation into how the bonds should be taxed in the future. In fact it is reported that HMRC faces an average of around 600 similar cases per year.
The simplest proposal included in the consultation is that investors should be able to withdraw an amount equivalent to their original investment without incurring a tax charge. The consultation does however contain two other proposals both of which could make the process more complicated, contrary to the concept of tax simplification.
But critics have argued that some of HMRC’s alternative proposals could very well make the withdrawal process even more complicated than it already is without fully removing the current disconnect between the tax rules and economic reality.
It is hoped that the consultation leads to a simplification of the rules.
The consultation closes to comments on 13 July 2016.
