OFFSHORE BONDS, or “wrappers”, as they are more commonly known nowadays, have been around for a long time. However, their importance in financial planning, especially for expatriates, has never been more important. Let’s start by going back to basics.
An offshore bond, or “wrapper”, is, in basic terms, a whole of life insurance policy that is written by a non-UK arm of an insurance company. Typically, insurance companies have based their “offshore” subsidiaries in places such as the Isle of Man, Channel Islands, Dublin and Luxemburg. The reason for establishing these centres of business is due to the preferential tax treatment of the insurance funds. For Portuguese tax residents, care should be taken as to which offshore centre is used, as many are now “blacklisted”.
The insurance policy is normally a single premium whole of life policy, requiring no medical underwriting. So, in essence, these “wrappers” are a convenient and tax efficient way of investing a lump sum (single premium) without any specific term at outset (whole life).
An “onshore” UK based insurance company will have to pay tax of 20 per cent to the UK Inland Revenue on any profit made within the fund. A non-taxpayer cannot reclaim this tax, but it is counted as a basic-rate credit to a UK higher-rate taxpayer. In comparison, funds within an offshore “wrapper” accumulate tax free (apart from a very small amount of tax that the insurance company may have to pay on dividends received from certain equity investments). But what does this mean for the investor? Quite simply, it means excluding any effect of charges and assuming both funds are invested in exactly the same fashion, an offshore fund will grow at a faster rate than an onshore fund. Here is an example for an investment of 100,000 pounds sterling with an assumed growth rate of seven per cent per annum.
These figures are only a guide and should not be considered an illustration of future values. You may get back more or less than the amounts shown. Value of units may go down as well as up, and you may not get back the full value of your investment.
As the above tables show, the additional investment return achieved, net of tax, in an offshore fund can be substantial, but that is not the end of the story:
“Wrappers” offer very tax efficient withdrawals or “income”. A UK tax resident can withdraw up to five per cent of the original investment per annum, for 20 years, without paying any tax on these withdrawals. Only on final encashment will tax become payable. Also, the five per cent per annum withdrawal limit is cumulative, meaning that any unused allowance can be carried forward to future years.
For non-UK tax residents, the allowances and amount of tax due will depend on where you pay tax. For the Portuguese tax resident, the allowances are more generous than the UK rules. Normally, only once withdrawals exceed the original investment is tax payable by the investor.
Furthermore, “wrappers” are treated as non-income producing assets. Only if a chargeable gain arises, do you need to enter this withdrawal income on your tax return. They are not subject to the European Savings Directive. Therefore, unlike offshore bank accounts, there is no withholding tax of 15 per cent (due to rise to 35 per cent) or disclosure requirements. For the cautious investor, there are ways of holding cash within a wrapper, or to opt for an investment approach with minimum risk. However, they should only be considered as long term investments – minimum five to 10 years.
With careful planning and timing, an expatriate investor can choose when and where to cash in a “wrapper”, thus controlling when and where to pay any tax due – maybe reducing or eliminating any tax liability completely. Perhaps, by cashing in at a time when he/she is deemed to be tax-resident in a country with low taxes. Or maybe cashing in at a time when the investor has little or no other income. This could be in the year after retirement by delaying pension income for a full tax year.
The choice of investments within a “wrapper” is very wide and most good providers can offer bespoke or tailored portfolios to suit your circumstances and risk profile.
As always, you should seek professional independent advice before committing to any long-term investment.
• John Westwood can be contacted by telephone on
289 417 267 or via e-mail at [email protected]
