HMRC has in recent days issued a consultation paper on part surrenders, addressing the inequitable tax consequences which can arise if customers withdraw money from their bond in the wrong way.
HMRC is consulting on three new proposals, all of which will impact all UK and offshore bonds.
The review by HMRC follows the case of Mr Lobler, who withdrew money from across all policy segments rather than by a complete closure of individual policy segments and suffered a significant tax liability.
The Government said it would review the rules to prevent the arising of such extreme tax consequences, which it said are completely disproportionate to the growth received on the investment.
Chartered Financial Planner Rachael Griffin from Old Mutual Wealth said: “There has been much anticipation in how HMRC will amend its rules to address the inequitable outcome a customer may face if they take a withdrawal from an investment bond in the wrong way.
“It was hoped that HMRC would give sanctions to providers to simply correct such cases, as this only impacts a small percentage of policyholders (HMRC quote 600 cases). However, HMRC appears to be looking for a more robust process and wants to change the calculation basis for all partial surrenders.
“Two of the proposals; taxing the economic gain and deferral of excessive gains, both require complex calculations, and will impact all customers looking to make a withdrawal from their policy.
“It will make the withdrawal process more complicated and given some customers don’t fully understand today’s process I would argue it doesn’t help solve the issue.
“The simplest of the three options proposed is the 100% allowance. Customers are already familiar with the 5% withdrawal allowance on bonds, so a 100% allowance would be easy to understand and does not require any additional complex calculations. It could also benefit customers as it would provide them with increased flexibility to withdraw over 5% a year if required, without creating any tax liability.”
Old Mutual summarised the three new proposals set out by HMRC as:
1. Taxing the economic gain:
This option looks to calculate the economic gain on each withdrawal by treating some of the withdrawal as premium and not treating it all as gain. This therefore ensures the amount of tax chargeable is an appropriate fraction of the policy’s economic gain.
2. The 100% allowance
This will replace the current allowance for someone to withdraw 5% tax free each year. The 100% allowance will enable someone to withdraw any amount at any point, up to 100% of their premium before being liable to tax. Once someone withdraws 100% of premium, excess withdrawals are then taxed as economic gains.
3. Deferral of Excessive Gains
This involves keeping the current process in place, but including a benchmark for what is deemed an acceptable level of gain (e.g. 3%). So if large sums are withdrawn, a safety net kicks in to ensure no disproportionate tax consequences occur, and the gain rolls on to the next withdrawal point. If the gain is still excessive, it will roll on again, and so on, up to maturity or full surrender.