Investment bonds – who is assessed to tax?
This briefing sets out who is assessable to tax on the happening of a chargeable event on an investment bond.
- Consider who is the legal owner of the bond.
- Where a bond is owned by an individual(s) they would usually be assessable to income tax on any chargeable event gain.
- Special rules apply where the bond is owned by trustees and the tax position will depend on the type of trust and who settled it in trust.
Where the Bond is owned by one or more individuals and it is not in trust
The legal owner of the investment bond at the time of a chargeable event will usually be assessable to income tax on any gain the bond investment has made, provided they are resident in the UK for UK income tax purposes.
If the bond is owned on a joint basis, each individual will be assessable to income tax on their share of the gain on a 50:50 basis.
When a chargeable event occurs because of the death of the last or sole life assured (excluding capital redemption bonds), a chargeable event will arise, and the gain will form part of the deceased bondholder’s taxable income for the tax year of death. If the life assured is not the bondholder, the death of the owner will not result in a chargeable event as the bond will continue in force (unless the personal representatives decide to encash the bond).
Where the bond is owned by trustees
The type of trust will determine who is assessable for chargeable event purposes.
- Absolute trusts
Absolute (bare) trusts are generally looked through with chargeable gains assessable upon the beneficiary. The beneficiaries will be taxed in the same way as an individual who owns an investment bond outright. Where there is more than one beneficiary, each will be assessed proportionately on any bond gain based on their share of the trust fund.
If an absolute trust has been set up by parents for the benefit of their minor children (known as a parental settlement), any gains are likely to be taxed on the parents. Only gains below a £100 limit each tax year would be taxed as the child’s income. If the gain is more than £100, the whole gain is taxed as the parent’s income. If there are joint settlors, this £100 limit is doubled. The limit applies for each child beneficiary of the trust.
- Discretionary and Interest in Possession Trusts
If the settlor is alive and UK resident the chargeable event will be assessable against them. Where there is more than one settlor, each will be assessed separately on their share of the gain.
Where an existing bond is assigned into a trust, each settlor will be deemed to have an equal share. This is because it is the rights to the policy that are transferred to the trust and each joint owner has equal rights to the proceeds.
If each settlor added cash to the trust and the trustees invested in the bond, gains will be assessed proportionately based on their contribution to the trust.
If there is only one surviving settlor, a gain may be apportioned between the surviving settlor at their marginal rates and the trustees.
The settlor also remains assessable to tax on any chargeable event gain throughout the tax year of their death. This means that if the trustees surrender the bond after the settlor's death but in the same tax year, the personal representatives must ensure that this is included on the deceased individual’s self-assessment tax return.
- Dead settlor rule
If the trust is an ‘old’ trust, the chargeable event gain may not be subject to UK income tax – this is known as the ‘dead settlor rule’. Where a chargeable event occurs on or after 6 April 1998, the trust was established before 17 March 1998 and the creator (or at least one of them if more than one) died before 17 March 1998 then the “dead settlor” rule will apply and gains will escape the tax charge provided:-
- the chargeable event occurs in a tax year following that in which death occurred;
- the policy commenced before 17 March 1998;
- the policy was owned by the trust before 17 March 1998; and has not been enhanced in any way since 17 March 1998.
- if the Dead settlor Rule doesn’t apply, the Trustees need to be considered.
If the settlor is deceased or they are alive but are non-UK resident for tax purposes, any chargeable event gain will be assessable on the UK resident trustees at the trustee rate of tax, which is currently 45%. If the bond is onshore, the trustees will receive a credit of 20% against their liability which means they will pay 25% (45% less 20% tax credit) on any gain.
If the bond is surrendered after the settlor’s death and in a later tax year (i.e not in the same tax year as the death of the settlor), the trustees will be assessable.
- The Beneficiaries
If the settlor is deceased or non-UK resident and there are no UK resident trustees, UK resident beneficiaries will be assessable, but only when they receive their entitlement from the trust.