The product that sums up what is wrong with the world of finance

In this column about a new no-fee investment trust, I mentioned the Splab (single premium life assurance bond)  as being a financial product that singlehandedly manages to sum up most of what is wrong with the world. Some of you want to know more. You’ll regret it. But here goes.

The Splab is a complicated and confusing product usually recommended to clients for “tax planning purposes.” It works like this. You put a pile of money (a single premium) into one. It is invested in units of one investment or the other of the life assurance company in question. You can then take 5% of your original money out again every year, but pay no tax on the returns made within the bond until you cash it in.

The idea here is that you take it out when you are a higher-rate tax payer and then cash it in when you are a lower-rate tax payer – hence deferring any taxes there might be on the returns until you will pay less on them (in another quirk of the system all the gains here are classified as income rather than capital gains).

If you are wondering if this is worth the bother, I am entirely with you. Splabs tend to move in the high-charges-low-returns area of the market and as far as I can see don’t work particularly well in the tax saving area either. Taking out 5% a year of your original capital sum is of no use tax-wise. It’s your own capital rather than a new gain, so you can do what you like with it wherever you chose to put it. You could put it in the Post Office and take out 5% a year tax free. Or RBS, or First Direct. Or anywhere else, for that matter.
I also can’t see how you can protect very much money from tax even as you move between bands. Let’s say you are a lower-rate taxpayer when your bond matures. You are deemed to have paid 20% on the proceeds from the bond (at source) and you then pay 20% more on anything over the higher-rate band as well. The gain you make is divided by the number of years you have held the bond for and then added to your current income. You are then taxed 20% on anything over £34 370 (higher-rate band) multiplied by the number of years you have held the bond. If you are already a higher-rate taxpayer you get taxed 20% (or 30% if you are a top rate payer) on the lot.

So let’s say I retired this year as a lower-rate payer with a total income of £30,000 – having previously been a higher-rate payer.  A bond I have been holding for a decade matures making me a total return of £20,000. 20% is taken from it (£4,000) at source. Then the remainder is sliced by ten, making it a £2,000 annual gain. I add that to my £30,000 and as it is still under £34,370, I pay no more tax.

That sounds nice. But it isn’t necessarily. I’ve turned capital into income so I might have wasted my capital gains tax allowance in all those years and even if not, capital gains tax to lower-rate payers is 18% – less than the income tax I have already paid on my bond (although CGT moved to 28% if the gain moves you above the band). I’ve also paid a price by locking myself into a long term (and probably very expensive) investment.

Finally I’ve taken a bet on my post retirement income – had it been just £2,370 higher I would have had to start paying another 20% on part of my slice. Had it been £4,370 higher I would have had to pay another 20% on all of it.

It seems to be that there is no gain if you are higher-ratepayer and only a limited gain under certain circumstances if you are a lower-rate payer. The IFAs tell me that I am missing a point somewhere (what? Anyone who can explain below, please do…) and that these complicated mishmashes of tax legislation and investment do cut their client’s tax bills (“by millions” one adviser told me last week). But if that is the case I can’t understand why the SPLAB exists at all. Why would our tax law allow a product that does nothing but create complication and avoid taxation? Maybe don’t answer that.