Amid last year’s budget speculation, rumours circulated that capital gains tax (CGT) rates would be aligned with income tax rates. Whilst this did not materialise, the basic rate of CGT increased from 10% to 18%, and the higher rate rose from 20% to 24%, effective from 30 October 2024. Mark Fenlon, Head of Technical Services at Transact explores the impacts of these changes.
These changes reflect a broader trend of tightening tax policies in recent years. The regressive nature of these changes is evident in the significant reduction of the Annual Exempt Amount (AEA) for CGT. The AEA has been dramatically reduced in stages, from £12,300 in April 2022 to £3,000 by April 2024, leaving taxpayers with less room to shield gains from taxation.
Changes to dividend taxation have also imposed additional burdens on taxpayers. The dividend allowance, initially set at £5,000 when introduced in April 2016, has been progressively reduced, dropping to £2,000 in April 2018, £1,000 for the 2023/24 tax year, and further to just £500 from April 2024. Basic rate taxpayers face a rate of 8.75%, while higher and additional rate taxpayers incur rates of 33.75% and 39.35%, respectively.
Before the abolition of the basic rate tax credit in April 2016, dividends within the basic rate band were effectively tax-free for basic rate taxpayers. Now, even modest dividend incomes are subject to taxation once they exceed the reduced allowance.
A summary of the current allowances and tax rates applicable to individuals, for different income streams, is provided below:
| Tax Year | |||
| Allowances | 2022/23 | 2023/24 | 2024/25 |
| Dividend Allowance | £2,000 | £1,000 | £500 |
| CGT AEA | £12,300 | £6,000 | £3,000 |
| Tax Band | |||
| Basic | Higher | Additional | |
| Interest (2024/25) | £1,000 | £500 | £0 |
| Tax Band | |||
| Tax Rates (2024/25) | Basic | Higher | Additional |
| Dividend | 8.75% | 33.75% | 39.35% |
| Interest | 20% | 40% | 45% |
| CGT* | 18% | 24% | 24% |
* 20% for disposals before 30 October 2024
Investments held in pension and ISA accounts will shield investors from these increases. However, when pension and ISA allowances have been exhausted, alternative tax-efficient structures, such as life company investment bonds, should also be considered.
Investment Bond Basics
It is important to note that the investments held within an investment bond are not owned directly by the investor; instead, the investor owns a life assurance policy issued by the bond provider. It is the life company that owns the assets, and they are responsible for accounting for any tax due on investment income and gains.
For UK-based life companies, interest, property income distributions, and gains are subject to an annual charge at the basic rate of 20%. Dividends, however, accumulate tax-free within the bond.
In contrast, offshore life companies are taxed according to the rules of their respective jurisdictions. Many offshore jurisdictions (including the Isle of Man where Transact’s international bond is domiciled) do not require companies to deduct tax on investment income or gains, which can make offshore bonds more tax-efficient in certain scenarios—particularly if the gains arise for individuals who are not subject to UK income tax.
Another valuable feature of an investment bond is the ability to withdraw up to 5% each year of the amount paid into the bond without triggering a chargeable event. This can provide investors with a regular stream of payments while deferring tax until the full amount of the premium has been withdrawn. Any unused 5% allowances can be carried forward to subsequent years, allowing access to an increasing amount of tax-deferred capital as the bond term progresses.
During the life of the bond, certain events may trigger chargeable gains. These typically include the surrender of the bond, partial withdrawals exceeding the cumulative 5% allowance, or the death of the last life assured.
Chargeable gains are treated as savings income. For onshore bonds, a 20% tax credit applies, reflecting tax already paid by the life company. If the gain falls within their available basic rate band, basic rate taxpayers have no further tax liability. However, higher rate and additional rate taxpayers will owe additional tax at 20% and 25% respectively.
No tax credit is granted for offshore bond gains. Gains are taxed at the investor’s marginal rate (20%, 40%, or 45%), depending on their total income.
For onshore or offshore bond gains, top-slicing relief is available if the gain pushes an individual into a higher tax bracket. This relief spreads the gain over the number of years the bond was held, potentially reducing the overall tax liability. It should be noted that top-slicing relief is not available to trustees or corporate investors.
You can find more information on how gains are calculated and the different withdrawal methods by referring to the Guidance Notes to Tax and the Transact Onshore/Offshore Bond which can be found on Transact-Online at Information > Documents.
Comparing tax rates between investment bonds and General Investment Accounts (GIA)
Chargeable gains on investment bonds are taxed as income which means the effective rate of tax on each component of the chargeable gain (dividend, interest and capital gain) is subject to income tax at the investor’s marginal rate in the year of the event. The table below compares the effective rates applicable for each income type across each wrapper:
| Income Tax Bands | |||||
| Wrapper | Nil | Basic | Higer | Additional | |
| Dividend | GIA | 0% | 8.75% | 33.75% | 39.35% |
| Onshore Bond | 0% | 0% | 20% | 25% | |
| Offshore Bond | 0% | 20% | 40% | 45% | |
| Interest | GIA | 0% | 20% | 40% | 45% |
| Onshore Bond | 20% | 20% | 36% | 40% | |
| Offshore Bond | 0% | 20% | 40% | 45% | |
| Capital Gains | GIA | 18% | 18% | 24% | 24% |
| Onshore Bond | 20% | 20% | 36% | 40% | |
| Offshore Bond | 0% | 20% | 40% | 45% | |
For higher and additional rate taxpayers, the effective rate of tax on dividends and interest is lowest in the onshore bond, although the ongoing deductions by the life company of tax on interest and gains will act as a drag on performance (which does not arise in the offshore bond).
One of the key planning opportunities of using investment bonds is the ability to control the timing of chargeable events. This allows investors to defer paying tax on gains until a time when they may be basic rate or nil-rate taxpayers. Additionally, bonds (or bond segments) can be assigned to other individuals who might also pay tax at lower rates.
For example, a higher rate taxpayer investing in an offshore bond can defer chargeable gains until they become a basic rate taxpayer, reducing their effective tax rates to 20% for dividends, interest, and gains. This compares favourably to paying 33.75% on dividends, 40% on interest, and potentially 24% on gains if investments were held in a GIA.
Future tax changes
The magic of diversification when managing a client’s investment portfolio and its volatility are well-known. Diversification by tax wrapper might be a less well-known strategy, but holding clients’ assets across a range of different tax wrappers can help reduce the risks of future tax changes. There is little doubt that recent tax changes have sparked renewed interest in bonds, but future planned changes may accelerate this trend. Following the announcement that unused pension funds will form part of a deceased individual’s estate from April 2027, investors may increasingly turn to gifts and trusts to reduce their estates while maintaining control over gifted assets.
Trust tax rates align with those applicable to additional rate taxpayers, and trustees are required to complete annual self-assessments to report and settle taxes due on income and gains. Also, for trustees, the AEA for CGT purposes is capped at £1,500. So, using an investment bond offers several financial planning advantages for trustees too .
Firstly, investment bonds can reduce administrative burdens by eliminating the need for trustees to complete annual self-assessments. Secondly, regular payments from the trust can utilise the 5% tax-deferred withdrawal mechanism, avoiding an immediate income tax charge on distributed amounts. Finally, distributions to beneficiaries can be made through assignments of bond segments, shifting any tax liability on the gains from the trustees (who are subject to additional rates of income tax) to beneficiaries (who are likely taxed at lower rates).
As well as providing both onshore and offshore bond wrappers, we also have a range of trust guides and specimen trust deeds which can be found on Transact-Online under Information – Trust Documents and if you need more information feel free to contact the Technical Services team on 0207 608 5330 or e-mail technical_direct@integrafin.co.uk.
All information is based on our understanding and interpretation of applicable law and regulation.
About Mark Fenlon
Mark Fenlon is Head of Technical Services at Transact where he leads a dedicated team responsible for providing comprehensive wrapper and tax support to financial advisers and other areas of the business. Over nearly 20 years at Transact, Mark has been deeply involved with many of the significant regulatory changes and has helped to develop the company’s range of pension, ISA, and bond wrappers.
