Higher-rate taxpayer Ben can avoid encashing his investment bond and mitigate his tax bill by investing in a venture capital trust, however shares must be held for five years to qualify.
Ben is 55 and earns £90,000 per year. As such, he is a higher-rate taxpayer.
He has an investment portfolio of around £500,000. £400,000 of this has been transferred to an investment platform by his financial adviser.
But the remaining £100,000 (of which £30,000 represents growth on the original investment) is currently invested in an investment bond. It remains off-platform, because both Ben and his adviser are reluctant to encash it. This would realise a chargeable gain, leading to an income tax charge.
Ben wants to transfer his entire portfolio, including the investment bonds, onto an investment platform. But how can he do this as part of a single mandate, while mitigating the tax liability generated by realising the gain in the investment bond?
Gains on investment bonds are chargeable to income tax. As a higher-rate taxpayer, Ben will face an income tax charge of £6,000 in the tax year the bond is surrendered.
Significant one-off tax penalties like this frequently prevent investors from moving their entire portfolios onto a platform.
But it is possible to mitigate the tax bill by investing in a venture capital trust (VCT).
As the tax charge will not be due until the January after the bond is surrendered, Ben could consider taking the following steps to transfer the full amount, while mitigating the relevant tax charge:
- Encashing the bond and realising its full value.
- Reinvesting £80,000 of the proceeds on his chosen investment platform.
- Reinvesting £20,000 of the proceeds into a VCT, giving rise to income tax relief of £6,000. VCTs provide income tax relief at 30% of the amount subscribed.
Unlike pension investments, the tax relief gained through a VCT can be used to offset an income tax charge from any source. Because the tax relief on the VCT investment will be available within a few weeks of the purchase of VCT shares, Ben should never have to pay the tax charge due. This comes as a result of the investment bond surrender.
The VCT shares must be held for a minimum of five years to qualify for this tax relief. However, after this point they can be transferred into other investments. On the fifth anniversary of the VCT investment, Ben could sell his VCT shares and reinvest these onto his chosen investment platform.
In this way, he will have moved the entire value of his investment bond onto the platform with no tax charge to pay.
Also, the VCT shares themselves provide favourable tax treatment. This includes an income tax exemption on dividends from shares in VCTs and tax-free capital gains on disposal of the investments.