Life Insurance Investment Bonds vs. Mutual Funds - Don’t let the tax tail wag the investment dog

Over the years, whether a Life Insurance Investment Bond (UK or offshore) is a preferable product wrapper to a collective has been a key factor in an adviser determining their investment advice to their clients. The recent announcement in the Chancellor’s Pre-Budget report changed one of the key factors that are taken into account in this debate – the rate of capital gains tax. How has this affected the comparison has been the subject of much debate and speculation. But on reflection, the position may not have changed as much as some commentators have stated. The ABI have already met with HMRC to discuss some of the possibly ‘unintended consequences’ of the proposed changes and we must also remember that there are many other representative bodies in the queue to put their case to HMRC. This is not to say that change to the proposals is to be expected, but change cannot be completely ruled out. With this in mind, we are advocating that a balanced, considered view, informed by the facts is what should prevail when giving investment advice to any prospective investor. A classic opportunity for the delivery of informed, professional financial advice.

The key changes announced in the pre-Budget report that affect capital gains tax (CGT):

• The introduction of a flat rate of CGT at 18%. (Previously CGT was charged at savings rates as if the taxable gain was the investor's top slice of taxable income)

• The removal of taper relief

• The removal of indexation relief (which does not affect new investments)

These changes are due to take place from 6 April 2008. Chart 1 shows the effective rate of CGT for basic and higher rate taxpayers before and after the proposed change.

The catalyst for the changes is thought to have been the desire to prevent private equity mangers from only paying tax at 10% on ‘carried interest’. However, the changes affect a much broader community and so, if this wasn’t intended, there may be some hope for a revision to the proposed changes.



For ordinary investors in retail investment products, the key issue to consider is the removal of taper relief and its “replacement” with a flat CGT rate of 18%. Non-business assets taper relief currently starts at 5% with 3 years’ ownership increasing to a maximum of 40% with 10 years’ ownership