Guide Menu

Tax on chargeable event gain certificate and investment bond

 

Written by Ray Coman

 

Life insurance as investmentLife assurance secures anamount payable to the policyholder’s beneficiary on death.  The usual intention of life insurance is to secure a fixed amount to loved ones in the event of a death.  It is especially valuable where a death may be untimely and the deceased did not have time to accumulate the expected nest egg for the family.  Life insurance products benefit from preferential tax treatment.  However, a variant product allows the policyholder to hold life funds in riskier investments.  The value of the fund varies with the performance of the markets and the value of the benefits are no longer assured.  Consequently, the products do not bring the same tax advantages.  There are two forms, qualifying products must guarantee a minimum return and have some tax benefit.  Non-qualifying funds do not offer that guarantee and any gains are subject to income tax.  The gain on a non-qulifying product, often called an investment bond, is reported on a chargeable event gain certificate and is subject to income tax.

 

Qualifying life insurance

Non-qualifying schemes

 

Qualifying life insurance

 

A profit on life insurance refers to the excess of the proceeds over total premiums paid.  Any profit on maturity or encashment of a qualifying life assurance policy is usually tax free.

 

The qualifiers for a life insurance policy are complex.  However, in broad summary, premiums have been paid for a at least ten years or until death if sooner. Premiums have to be paid in regular amounts and the capital pay-out should be at least 75% of the premiums payable.  A policy is cashed in early will be subject to the rules for non-qualifying life assurance.

 

The life insurance company will ensure the fund qualifies if it is offered as such.  Since 6 April 2013, premiums into an ‘investment type’ plan have been limited by tax regulation to £3,600 a year.  Therefore, this type of plan now has limited marketability.

 

Non-qualifying schemes

 

Non-qualifying life assurance policies include single premium bonds, guaranteed income bonds, investment bonds or property bonds.  The overall gain on the policy on a chargeable event (e.g. encashment, sale or death) is taxed as savings income and comes with a 20% tax credit.

 

Withdrawals from the policy are known as ‘partial encashments’.  Up to 5% of the premium per year (on a cumulative basis) can be withdrawn with no immediate tax liability.  Where withdrawals exceed the 5% limit, the excess is:

 

  • Divided by the number of years since the policy was taken out;
  • Taxed as top slice of income;
  • The tax is multiplied by the number of years since the policy was taken out;
  • And a notional 20% is deducted from the overall liability.

 

When the policy is finally encashed, the profit (i.e. proceeds on encashment, less initial premium and add tax free withdrawals) is taxed in the same way as excess withdrawals.  Instructions are in ITTOIA 2005 536.  The policy provider has to issue a “Chargeable event gain certificates” with the encashment and national tax already calculated. 

 

Taxpayers should plan to delay encashment until they expect to be basic rate taxpayers.  It can be effective tax planning where tax rate is expected to be lower in retirement.

 

The 2020 Budget introduced a new regulation that allowed personal allowance to be included in the calculation of top slicing relief.  In effect this is a better deal for the taxpayer.

Comments  

#3 Ray Coman, FCCA, CTA 2021-10-02 16:30
Dear Ms Wong,

I do not routinely have to deal with the calculations. The reason being that your insurance company will carry out all the calculations and provide it on a 'chargeable events certificate.' The remit of my work is usually simply to transpose that information into your Tax Return. You are usually taxed on gains at the top slice so the key planning point is to realise gains in a tax year in which your income would be depressed, for instance by recycling the gain into a pension.
Quote
#2 Ms Wong 2021-09-27 07:41
Hi Mr. Coman

Based on your articles, may I ask you the following questions:

1. For non qualifying polices, how to calculate the taxable income on the excess amount? What do you mean by " The tax is multiplied by the number of years since the policy was taken out." and how is "20% tax credit" mean?

2. E.g. if I paid premium for 10 years and on 11th year, I withdraw some premium plus bonus, the excess of 5% premium equivalent will be multiply by 1/11 as taxable income? is my understanding correct?

3. upon surrender of the whole policy, the proceeds minus the total premium paid will be taxable?

Thank you in advance for answering my questions.

Regards
Ms. Wong
Quote
#1 Michele Di Muro 2021-08-24 14:39
Thank you for your chat and explanation. very very clear.
Michele
Quote

Add comment


Simple situations. Complex situations. If it goes on a Tax Return we deal with it. Contact us for a free, initial meeting.

Email us!