Investors should hold onto their bonds

Investors who switch from bonds into other types of investment product for tax advantage are likely to be no better off in most cases - and may actually be worse off in some instances - according to research by Standard Life.

While the Chancellor failed to use the Budget to bring the taxation of bonds closer into line with other types of investment, the company believes that investment bonds remain a suitable long-term investment vehicle for most people.

John Lawson, Head of Pensions Policy, Standard Life, said: “Only in a minority of cases should advisers be thinking about moving their clients out of bonds into other types of investment such as mutual funds. Even then, advice would need to be based on a wide range of factors. Working out if the client will be any better off could be very complex decision and advisers cannot apply a broad brush approach – each case will be different.”

It was announced in last year’s Pre Budget Report (9 October 2007) that capital gains tax would be charged at a flat rate of 18% from 6th April 2008, regardless of an individual’s personal tax position or how long the asset had been held.

Meanwhile, investment bonds remain within the income tax regime. This means that basic-rate taxpayers will pay a tax charge of 20% on gains – broadly in line with unit trusts and mutual funds - but people who are higher-rate taxpayers, when they cash in the bond could, face a tax charge of up to 40%.

This has led some commentators to suggest that bonds are no longer a viable investment choice. However, this is contrary to analysis by Standard Life which has demonstrated that bonds continue to be a good investment choice, both for new and existing customers, in comparison to other types of investment.

Advisers who have reason to believe their clients may be better off by switching from bonds into other types of investment need to take account of a range of factors such as the individual’s tax position, the value of the investment and how long they intend to hold it, the underlying asset mix, the rate of tax they are likely to be paying in future years, whether they have a spouse or partner they can assign the bond to and whether or not they are able to use some or all of their capital gains tax allowance.

Standard Life is currently working on an online calculator which will help advisers in providing their clients with the appropriate advice. The calculator will be easy to use and sufficiently flexible to take account of individual circumstances.

John Lawson said: “There is a danger that existing investors, particularly higher-rate taxpayers, are encouraged to change horses by cashing in investment bonds and switching to another type of investment. For some people this might be the worst thing to do, particularly higher-rate taxpayers who expect to become basic-rate taxpayers in the future, as these people could end up incurring an entirely avoidable tax charge.”