With Profits Bonds Explained

Category: Investments

What is a With Profits Bond?

• A 'With Profits Bond' is a form of life insurance based investment, and usually requires lump sums to be paid in. The amount of life cover is normally only minimal. Most With Profits Bonds are taken for investment growth and not life cover alone.

• The investment buys a 'sum assured' in the form of units in the insurer's With Profits fund which invests in a wide range of assets such as shares, fixed interest securities (corporate bonds and government gilts) and property.

• Your investment value builds up with the addition of bonuses which are usually added every year.

• Once added, these bonuses cannot be removed and are seen as one of the attractions of With Profits Bonds. This annual declaration of bonuses is known as 'smoothing', and protects the investor from the ups and downs normally associated with investing in stock markets. In years when the performance has been very good the life company will usually retain some of the monies in "reserves" so that in difficult years some level of bonus can be maintained for policyholders.

• It is possible to take a regular income (monthly, quarterly etc) from With Profits Bonds by redeeming units from the plan.

Who Are They Suitable For?

• With Profit bonds offer the potential for greater growth than deposit accounts but with a lower risk profile than for stocks and shares based investments. This is because the funds are usually a mixture of assets. So if you want a decent return but don't want to put your money at risk, a With Profits Bond may be suitable to those with a cautious attitude to risk.

• A With Profit Bond should be considered as part of a balanced investment portfolio as a low - medium risk investment.

What Should You Look Out For?

• With Profit Bonds incur an annual charge of around 1 - 2%. Some also have initial charges or price units more highly for when you purchase than when you sell (called bid/offer spread) which is another form of charge.

• There is no guarantee that you will get a Reversionary Bonus, particularly in times of a major or prolonged downturn in the financial markets.

• There is no fixed term to the investment. However, if the bond is cashed in during the early years, an early surrender penalty may be applied in the form of a percentage value of the investment.

• A Market Value Reduction (MVR) or Market Value Adjustments (MVA) may be applied when there has been a large or ongoing fall in stock markets, or where investment returns are lower over a long period. This reduces the amount you receive should you withdraw from the bond during such times, particularly in the early years.

• Generally, if you are a basic rate taxpayer there is no income tax to pay when you cash in the bond, because tax has already been paid by the provider. If you are a higher rate tax payer, there may be an additional tax liability. You can withdraw up to 5% of the value of the bond each year without liability to tax.

How do I choose the right product?

Take a look at our With Profit Bonds best buy tables, based on past performance, to find the best offers available at the moment.

Our tables reflect the returns achieved by these products over the past ten years to help you see the best rates available.

If you are still unsure, always seek advice from an independent financial adviser.

Disclaimer: This information is intended solely to provide guidance and is not financial advice. Moneyfacts will not be liable for any loss arising from your use or reliance on this information. If you are in any doubt, Moneyfacts recommends you obtain independent financial advice.