I have mentioned it before and I want to say it again, I am not the biggest fan of offshore bonds, but they can have uses like a tax-efficient investment wrapper often provided by life insurance companies. In this article, I want to cover more about Offshore Investment Bonds for UK Expats and help you to understand why you might or might not want them as your investment.
These are mainly offered to expats on the basis to enable investors to grow capital without attracting tax. My aim is to cover offshore bonds and the pro and cons, so, you can get a more informed decision if you are looking at bonds as an option.
These are regarded as complex financial products and most people will need an advisor or wealth manager to explain the fees and terms of the bonds. I will go over the signs to look out for later in the article.
The investments will depend on the offshore bond provider. While the tax will be dependant on the jurisdiction of the bond.
Offshore bonds can be used effectively and can be an option for expats, for example, Australian expats returning to Australia can hold offshore bonds for 10 years and if they don’t touch them they can reduce tax liabilities. They can also be used for U.K expats to reduce tax liabilities if used properly.
Unfortunately, these bonds are often sold without proper advice due to the commissions and hidden fees. For, example, these are sold on the basis to many U.K expats in the UAE and the middle east on a tax-efficient basis. These places are low tax or zero tax in these countries and going back to the U.K so they have limited tax benefit when you could have gone into a low-cost platform which should have fewer fees.
If these, are missold they can be inflexible, have high surrender charges and high-cost charges based on the value of the initial premium. So, for example, if you put $100,000 in a bond and take $50,000 out after 1 year. You can under some offshore bonds, be paying a 1.5% fee based on the initial premium of $100,000 and this can be very costly.
Its important to identify the hidden fees and avoid making a bad decision. This article on its own should not form a basis for investing or not in offshore bonds and you should seek financial advice if you are looking at investing.
How offshore investment bonds work
Offshore bonds are a tax wrapper that can hold different kinds of financial assets. These bonds are usually held in locations such as Guernsey, Isle of Man, Malta, Cayman Islands and Bermuda.
It works as a life insurance product normally offering 101% on death on the main policyholder. Within the insurance wrapper, you have the option to invest in funds, stocks, bonds etc.
Because of the way it is structured as an insurance product it provides both tax and legal protection to the investment within the insurance wrapper if it is set up correctly.
These are also commonly used in QROPs and SIPPs as pension wrappers. But, in reality, they are often just used for the commission. The FCA has imposed, as of 2020, restrictions of putting U.K pensions into offshore bonds.
If you do however have a pension, in an offshore bond feel free to reach out on the chat or email below and can go over the costs and look at a second option if you are in a high fee product. My email is info@investmentsforexpats.com
Different types of bonds
Highly personalised offshore bonds
These types of bonds have surrender periods (or terms) of 1-10 years which capital must be kept within the offshore bonds. This makes these types of bonds illiquid and high cost due to the commission taken by advisors.
If you are looking for fee comparison, look at a platform in both the U.K and offshore which have a fee of around 0.4%. These bonds have charging structures of 1.4%-1.6% plus admin charges of around $500 a year, plus fund charges. These like stated above are usually for a fixed period as well, such as 10 years, so you have to ask yourself where is that 10% over 10 years going?
Although for the right client these can be useful, but would only use a fee-based advisor, for example, I have a client with 500,000 GBP that wanted to use an offshore bond based on the tax efficiency and got one for 0.36% + $500 a year invested in ETFs and charged $1000 fee.
This seems a lot but, if you look at the real cost of the bonds, these could be as high as 7% for example if it had a 1.4% charging fee over 10 years based on the initial premium it could have a charging structure of 7% upfront.
In this case, it would work out 1000s of pounds worse off. So, if an advisor says they are working for free I would be very wary. I have come across examples of expats in places like Thailand where it has very little regulation and unqualified advisors advising expats with pensions and placing them in these bonds saying the advisor did it for free.
Only to find out later the fees they were really paying by being placed in to a bond.
Quick tips are:
Check the advisor is U.K qualified and is regulated with FCA or other major international regulating bodies where they do business. Most EM countries do not have the same standard of law for your protection.
Collective Offshore Bonds
Collective bonds have restricted investments. They are often used for smaller investments for purposes such as IHT planning.
Again, the same principles apply tas before, make sure you are looking for fee-based advice as these, as we have seen above, are more likely to keep your costs lower because other advisors may not charge a fee upfront, but will get a generous commission and high fees at the back end.
Also, be aware of the investment within the bond and why they have been selected for your circumstances. I have seen pensions invested in car parking spaces in Glasgow within these bonds only for them to fail massively.
I have written previously in an article about looking at the Morningstar rating of the funds and making sure it is highly rated (unless going in for a specific reason or individual personal preference towards a certain fund). Make sure it is 4-5 star and has a history of beating the benchmark (if active) and they are managed or run by a reputable company with (ideally) over $100 million in AUM.
For, more about how to set a portfolio to risk I have written a number of articles on this, but for a very general rule of thumb the more risk orientated the more equities and the safer should be more towards bonds.
Tax efficiency of offshore investment bonds
As mentioned above these bonds can be tax-efficient due to the jurisdiction of the investment and structure. As they are life insurance products, the investments are protected against tax.
With this, it means CGT tax and income tax will still be subject to income taxin the country of residence when taking income from the bond.
Alternative tax benefits, you are able to draw up to 5% of the amount of the investment per year for up to 20 years as tax-deferred income without tax.
These can be beneficial in low to no income tax countries such as the UAE, Singapore and HK as it can be better to withdraw income when a resident within the country of low tax.
But, as many expats have these bonds and they move back to the U.K, any withdrawal, would be subject to U.K tax laws and income threshold rates.
Offshore investment bond fee
I have gone into a bit of detail in regards to fees of bonds, but you have two types of fees.
The FCA approach and the traditional approach.
The FCA has adopted an approach that all advisors must be fee-based, this is either an hourly charge or asset under management charge and require all fees to be explained prior to the agreement.
While, the traditional route, is commission-based, these are used normally in areas with low to no regulation and make the cost far more expensive.
For example, base cost should cost 0.3%-0.5% plus the admin annual charge, trading costs, and fund costs. While these normally are suggested to have 1.2%-1.6% charges with the commission.
Along with these costs you also have other fees to review.
Establishment fees
An offshore bond will have an establishment fee and this is calculated as a percentage of the investment and is paid on a yearly basis. Both offshore bond structures use this fee. This fee, like all the charges, vary between different providers but it is normally between 0.2%-0.5%
Like I have said above the establishment fee is for a period of time and is based on the original investment plus any gains. So, if you withdraw within the establishment time period it can be costly.
Admin fees
Admin fees are fixed annual fees for the provider and again vary depending on the provider.
Adviser fees
These are fees to be paid to the advisor. Under the FCA these are the only way an advisor can be compensated. It is normally 0.5%-1%
Commission payments
Commission payments are payments from providers, some of these in the offshore bond sector have been or are RL360, OMI, FPI, Providence life. These platforms will use term payments of 10 years with an establishment fee of 1% over the 10 years instead of the 0.2%-0.5% meaning that 7% upfront commission would be taken and charged over the 10 year period.
Again, this can have problems as this means the wealth is mainly locked in for a 10 year period, as well as a fee based on the original amount.
If you have been proposed offshore bonds or already holding an offshore bond feel free to get in touch and I would be happy to review the charges and the investments of the underlying product. Please email me at info@investmentsforexpats.com.
