This week’s Spring Statement was something of a ‘non-event’ regarding taxes and pensions. That said, we’re still very much feeling the aftershocks of October’s Autumn Statement, which introduced a number of significant tax changes that continue to shape our planning conversations with clients.
While many of those changes have tightened the tax landscape, one area that has quietly emerged as a relative winner – and is cropping up more frequently in client discussions – is offshore investment bonds.
These products were once overlooked – often dismissed as expensive and inflexible. But they’ve come a long way. Today, they offer a range of tax planning benefits and can sit neatly alongside pensions, ISAs and general investment accounts (GIAs) as part of a well-structured financial plan.
When investing, your capital is at risk. The value of your investment (and any income from them) can go down as well as up, and you may get back less than you invested, particularly when investing for a short timeframe (we usually recommend a horizon of at least 5 years). Neither simulated nor actual past performance is a reliable indicator of future performance. Investments should be considered over the longer term and should fit in with your overall attitude to risk and financial circumstances.
What Is An Investment Bond?
Let’s start with what they’re not.
Despite the name, investment bonds aren’t like traditional bonds issued by companies or governments. Instead, they’re technically life insurance policies – albeit with a very small insurance element – that are mainly used as investment vehicles.
The key point is this: because they’re packaged within a life insurance wrapper, they benefit from a unique tax treatment compared to other investments—more on this shortly.
There are two main types:
- Onshore bonds – issued by UK-based providers and subject to UK tax rules
- Offshore bonds – issued by providers based outside the UK (commonly the Isle of Man, Ireland or Luxembourg), offering different – and often more flexible – tax treatment
There is a slight difference in the way these are taxed. We generally operate in the offshore bond world, as this tends to offer greater flexibility when it comes to tax planning.
Why the Sudden Interest?
While the Autumn Statement didn’t directly target investment bonds, their appeal has quietly grown – mainly because the tax advantages of other popular investment options are being steadily eroded.
Here’s what’s changed in recent years:
- The tax-free dividend allowance has dropped from £2,000 to just £500
- The capital gains tax (CGT) exemption has been cut from £12,300 to £3,000
- CGT rates (on investments) have increased to 18% (basic rate) and 24% (higher rate), from 10% and 20% respectively
- The ISA allowance has been frozen at £20,000 until at least 2030
At the same time, the offshore bond landscape itself has improved. More platforms are now offering them, which has increased competition and helped drive down costs – making these products more accessible and attractive than they were in the past.
Taken together, this helps explain why investment bonds – particularly offshore bonds – are featuring more prominently in planning conversations with clients.
Key Tax Benefits of Investment Bonds
Investment bonds offer considerable tax benefits and flexibility:
- Tax-deferred growth: You won’t pay tax on the investment growth within the bond unless or until you cash it in. This so-called ‘gross roll-up’ allows the investment to grow over time without being reduced by ongoing tax charges.
- 5% tax-deferred withdrawals: You can withdraw up to 5% of your original investment each year without any immediate tax liability. This allowance rolls over if unused, giving you the flexibility to access liquidity when needed – without an upfront tax charge.
- Tax control on exit: When you eventually cash in the bond, any profit is taxed as savings income (rather than capital gains). This opens the door to various planning opportunities – for instance, realising gains in a low-income year or spreading encashments across multiple tax years to stay within lower tax bands.
- Assignment flexibility: Bonds can be assigned to another person – such as a spouse, child, or trust – without triggering a tax charge. This can be a powerful tool for income tax planning or estate planning, helping to pass on wealth tax efficiently.
The mechanics and tax benefits should become clearer in the case study below.
Case Study
The merits of investment bonds are best explained by way of an example.
The Setup: Building Wealth With Tax Deferral
Kate, 45, is an additional rate taxpayer, earning £250,000 a year. She has maximised her ISA and pension contributions and has £300,000 in additional savings.
She invests this into an offshore bond divided into 1,000 underlying segments of £300 each (this ‘segmentation’ offers considerable tax planning benefits, as we’ll see later in the example).
The funds are invested in a 70/30 portfolio of global equities and bonds, in line with the agreed risk profile.
Year 1: Gross Roll-Up
The bond gets off to a solid start. By the end of the first year, it’s worth £324,000 – a +8% return on the original investment.
Kate doesn’t need to take any withdrawals at this stage, which means there’s no tax to pay on the investment gains – and nothing to report on her tax return.
Importantly, this remains the case even if the investments within the bond are rebalanced or switched between funds. As long as the money stays within the bond wrapper, all gains are sheltered from immediate tax. This feature – known as gross roll-up – is a key attraction of offshore bonds and allows the investment to grow efficiently over the long term.
These figures are for illustrative purposes only and do not reflect actual investment returns, which can fluctuate and are not guaranteed.
Year 5: Early Access Using Tax-Deferred Withdrawals
Fast forward to year five, and the bond is now valued at approximately £383,000 (assumes an average return of 5% a year after costs).
At this point, Kate needs to access some funds to help cover private school fees for her 13-year-old son, Aaron.
Because she hasn’t made any withdrawals in the previous years, Kate is entitled to withdraw up to 25% of her original investment (5% per year × 5 years) without triggering an immediate tax charge. That equates to £75,000 of tax-deferred withdrawal allowance.
She only needs £25,000 for now, so she draws that amount and leaves the remaining bond untouched.
As this is classed as a tax-deferred withdrawal, there’s no immediate tax to pay, and nothing needs to be declared on her tax return. The tax position will only be assessed later – typically when the bond is wholly or partially cashed in.
Year 10: Funding University Costs Through Policy Assignment
By the end of year ten, the bond has grown to £457,000. Apart from the £25,000 withdrawn back in year five, Kate hasn’t needed to take any further funds – she’s been able to meet her ongoing expenses from income.
Her son, Aaron, is now preparing to start university. Kate wants to support him with an estimated £15,000 a year towards tuition and living costs.
At this point, the gain on the bond stands at £182,000 – calculated as:
- £457,000 (current value)
- Plus £25,000 (previous tax-deferred withdrawal)
- Less £300,000 (original investment)
The bond is structured as 1,000 individual segments, meaning each one has a value of £457 and an average gain of £182.
Now that Aaron is over 18, any income from investments assigned to him will be taxed in his own name, not Kate’s – sidestepping the usual parental settlement rules.
Kate decides to assign 33 segments of the bond to Aaron. The total value of these segments is £15,081, with an embedded gain of £6,006.
- There is no tax charge on the assignment itself – it's a straightforward transfer of ownership.
- Aaron then surrenders the segments immediately, receiving the full proceeds to help cover his university fees.
- The £6,006 gain is classed as savings income and therefore liable to tax. However, this comfortably falls within Aaron’s available tax-free allowances—a combined £18,570 across his Personal Allowance, Personal Savings Allowance and Starting Rate Band for Savings Income. As such, no tax is due.
This strategy is repeated each year of university – allowing Kate to draw money from the bond in a highly tax-efficient way, while also helping Aaron graduate debt-free.
Year 15: Retirement Planning
Fifteen years after first investing, Kate retires.
With no salary or pension income coming in, her income drops to £0 – and she now has an eight-year window before her State Pension begins. This creates a valuable planning opportunity.
At this point:
- The bond is worth £500,000
- There are 900 segments remaining (after earlier assignments)
- The only withdrawal so far was the £25,000 taken in year five
Based on this, the current gain across the remaining segments is £252,500, calculated as follows:
- £500,000 (current bond value)
- Plus £22,500 (proportion of earlier tax-deferred withdrawal across the 900 segments)
- Less £270,000 (original investment allocated to the 900 remaining segments)
This means each segment is now worth £556, with an embedded gain of £281.
Kate now begins to systematically cash in her bond segments to create a tax-efficient income.
In year 15, she chooses to surrender 178 segments. The figures break down as follows:
- Gross proceeds: £98,968 (178 × £556)
- Chargeable gain: £50,018 (178 × £281)
Kate’s available personal tax allowances total £18,570, which means only the remaining £31,448 of gain is taxable. As she’s now a basic-rate taxpayer, this is taxed at 20%, resulting in a tax bill of £6,290.
Her effective tax rate on the gain is just 12.6% – far lower than it would have been during her working life.
Kate receives a net payment of £92,678, which she can use to support her lifestyle in retirement, potentially reinvesting up to £20,000 into her ISA.
By spreading withdrawals over several years – during a time when her income is low – she’s able to make full use of her personal allowance and basic-rate tax band. In doing so, she’s shifting the tax burden from when she was a higher-rate taxpayer to a period where she pays little or no tax at all.
The Financial Conduct Authority does not regulate tax advice. Levels, bases and reliefs from taxation may be subject to change, and their value depends on the individual circumstances of the investor.
Conclusion
While investment bonds won’t be the right fit for everyone, they’ve become an increasingly useful planning tool – particularly for clients with larger portfolios or more complex needs. As allowances elsewhere are squeezed, we’re seeing them play a more prominent role in wider financial planning strategies.
Happy Thursday!
Kind regards,
George
