With the cost of a trip of a lifetime and a sudden surprise wedding sitting on his shoulders, Joel can withdraw the cash needed for both without triggering a large tax bill.
Joel, who is a higher-rate taxpayer, is fiscally astute. He has a financial adviser, Carl, who he speaks to regularly.
In 2015, Joel invested £150,000 into an onshore bond with 100 segments, mainly for capital growth but also with the intention to start withdrawing money from it in later life. It is now worth £151,000.
Joel wants to surprise his wife, Chalene, for their 25th wedding anniversary. But he is torn between a five-star holiday in Barbados or a luxury Caribbean cruise. After speaking to his financial adviser, he decides he can afford to go all out and do both. He withdraws £18,000 as a lump sum across all segments from his bond to cover the cost.
A few weeks after the holiday has been paid off, their daughter, who has been travelling the world during her gap year, announces she has met the love of her life and is getting married in a month’s time. She appeals to the bank of mum and dad because she has seen a fabulous venue and ‘just has to get married there.’
Joel calculates the wedding and travel costs and realises they need another £25,000.
Joel tells Carl he wants to withdraw £25,000 from his bond. But Carl is aware of the prospect of inadvertently triggering a huge tax bill. Should Carl suggest withdrawing the £25,000 as a lump sum across all segments?
- Individuals (and trustees) can withdraw up to 5% of accumulated premiums without any immediate tax charge.
- A calculation is made at the end of the insurance/policy year to see whether a gain has arisen and, if so, its amount.
- A gain only arises if the withdrawals (and ongoing advice charge) received exceed the available 5% allowance.
- Any allowance not used can be carried forward to use in subsequent years.
With that in mind, Carl knows that, currently, no gain will arise on 9 November 2018 when the insurance year ends because the withdrawal of £18,000 is within the available 5% allowance. In fact, there is £4,500 of cumulative 5% allowance left (£150,000 x 5% = £7,500 x three years = £22,500 minus £18,000 withdrawn = £4,500).
Option one: Withdrawal across all the segments
Option two: Encash segments
In February 2018, the value per segment is £1,510. Therefore, proceeds of £25,000 will require encashment of 17 segments. This will produce £25,670.
To calculate the gain on 17 segments, Carl must factor in the withdrawal taken earlier this year (£18,000). The easiest way to do this is to work out the gain on full encashment of the bond and then proportion it to 17 segments.
Carl divides the gain of £19,000 by 100 segments and then multiplies it by the 17 segments. This produces a gain of just £3,230.
If 17 segments are encashed, 83 will remain. The cost of these 83 segments is £83,000 meaning the future 5% allowance will be reduced to £124,500 x 5% = £6,225.
Happy that everything has worked out, Joel boards his cruise liner with peace of mind.
Liz Hardie is a tax and trusts specialist at Prudential