Due to the many benefits insurance bonds offer, they have broad appeal and can be appropriate for many different types of clients.
The most traditional use of these bonds is by high-income earners who are seeking a tax-effective investment.
For clients limited by the superannuation contribution limits, insurance bonds provide another tax-effective avenue without contribution limits.
Insurance bonds can be used for a multitude of other purposes, such as solving certain estate planning issues; increasing the age pension for retirees; and as an investment alternative for clients who are seeking to preserve their capital without receiving income payments.
Tax advantages
Insurance bonds can be classified as ‘tax-paid’ investments, as the provider pays the tax on investment earnings. The rate of tax paid is generally the current company tax rate of 30 per cent, although this can be reduced through the use of imputation credits. For clients on high incomes, this can be a tax-effective way to invest.
These bonds are also very simple at tax time. Clients don’t include investment earnings in their tax return unless a withdrawal is made in the first 10 years. After 10 years, if the client has adhered to the 125 per cent rule (where each year’s contributions did not exceed 125 per cent of the previous year’s), any withdrawals made will not attract personal income tax or capital gains tax. Capital gains tax is also not applicable when switching between investment options.
For clients that do withdraw before the 10-year period is satisfied, all or part of the profit portion or investment earnings will be included in their assessable income. The amount of profit included in the client’s assessable income depends on when they make a withdrawal.
For example, if a client withdraws:
> within eight years, all of the profit is included as assessable income;
> during the ninth year, two-thirds of the profit is included as assessable income;
> during the 10th year, one-third of the profit is included as assessable income; and
> after the 10th year, none of the profit is subject to tax.
Tax concessions also apply: a 30 per cent tax offset is available to offset any tax payable on withdrawal. If some of the tax offset remains it can be used to offset tax on other income.
Estate planning benefits
Taxation upon death is a large consideration for advisers, clients and beneficiaries, particularly when clients have non-dependent children as beneficiaries.
In the superannuation environment, death benefits that are paid to non-dependants risk tax of up to 31.5 per cent. Insurance bonds offer an alternative in these situations as they allow proceeds to be paid to any beneficiary (including non-dependants) tax free.
Leaving the tax benefits aside, these bonds can also be structured in a number of ways to solve estate-planning problems. Clients can nominate more than one beneficiary and can stipulate the percentage or amount that each will receive. When a beneficiary is nominated, the proceeds will not be subject to challenges to the client’s estate, as they will not form part of the estate assets.
Complex family situations can also be accommodated.
For clients with children with a marriage at risk, bonds can provide a level of asset protection from the child’s spouse. Upon death of the client (i.e, the parent), bond proceeds can be paid to their estate and included in the creation of a discretionary trust in their will for the benefit of children and grandchildren.
In other situations where the client only wants to provide for grandchildren, the bonds can be set up as advancement policies. Ownership would automatically transfer to the grandchild at a stipulated age, generally without capital gains tax consequences.
Boosting the age pension
Insurance bonds offer unique opportunities to increase some clients’ age pension if structured appropriately, depending on the client’s individual circumstances.
One such strategy is to have the insurance bond owned by a family trust. This can potentially offer some relief under the income test and may reduce aged care costs.
Other benefits
There are other worthwhile benefits at a product level that can be sought by advisers and clients that should be mentioned.
Some bonds offer guaranteed investment options, which are very relevant given current market conditions.
Similarly, the provision of death benefit guarantees, if offered, can ensure the estate and/or beneficiaries are paid at least the amount the deceased contributed (less any withdrawals) regardless of market movements. These two features are not offered by all providers.
The taxation concessions, estate planning benefits and the effect on the age pension means that insurance bonds can be a very important tool for advisers and their clients. While not necessarily for everyone, they certainly have some added benefits. And if the past couple of years are any indication, advisers are taking notice.
Jeffrey Scott is the executive manager of business growth services at CommInsure.
