An investment bond gives you the potential for medium to long-term growth on your money, over 5-10 years or more, along with fund management expertise. You also get access to a mixture of funds, which are looked after by professional investment managers. Of course like any investment, the value can go down as well as up so you might not get back what you put in.

Investment bonds are usually classed as a single premium ‘life insurance’ policy because a portion of your ‘life insurance’ policy can be paid out upon death, but they are really an investment product. So if your need is solely for life insurance, you might want to research other more tailored options.

That said, you usually buy an investment bond from a life insurance company, or directly through a financial adviser. They will invest your premium on your behalf for potential capital growth, which should build up until you withdraw money from your policy.

You can withdraw up to 5% per year of the amount invested without paying any immediate tax.

Some investment bonds may require a minimum investment term and apply charges for cashing in early. There may also be a minimum investment amount that may range typically between £5,000 and £10,000.

Types of investment bonds

Investment bonds mainly fall into two categories, onshore and offshore. The main difference is their tax treatment. In high-level terms, those onshore are subject to UK corporation tax, which is offset by your provider, while offshore bonds are issued from outside the UK and the returns roll up gross of tax in the funds, apart from Withholding Tax, as described below. Offshore bonds may also offer a wider choice of funds.

Other common types of bonds include fixed-rate bonds, corporate bonds and government bonds. Each have their own benefits and risks and the tax situation of each can vary.

Onshore investment bonds

UK Investment Bonds are non-income producing investments and so have a different tax treatment from other UK based investments. This can provide valuable tax planning opportunities for individuals.

The funds underlying the bond are subject to UK life fund taxation meaning that you are treated as having paid Income Tax at the basic rate on the amount of your gain. This notional tax is not repayable in any circumstances. You will have no liability to Capital Gains Tax or basic rate Income Tax on bond gains.

Certain events, also known as chargeable events, that can occur during the lifetime of your onshore investment bond may trigger a potential Income Tax liability:

  • Death giving rise to benefits.
  • Transfers of legal ownership of part or all of the bond (though not gifts).
  • On the maturity of the bond (only applies to Capital Redemption bonds).
  • You cash in all your bond or individual policies within it.

As you’re treated as having paid basic rate tax on the amount of the gain, the maximum rate you would be liable for is the difference between the basic rate and higher or additional rate tax. The gains may also affect your eligibility for certain tax credits and you could lose some or all of your entitlement to personal allowances.

If you’re a higher or additional rate taxpayer now but know that you will become a basic rate taxpayer later (perhaps when you retire for example) then you might consider deferring any withdrawals from the bond (in excess of the accumulated 5% allowances) until that time. If you do this, you may not need to pay tax on any gains from your bond.

Life assurance bonds held by UK corporate bonds fall under different legislation.

Special rules apply to trustee held bonds.