Is Zurich looking to take too much tax out of my investment fund?

Q&A: Dominic Coyle answers your personal finance questions

Exit tax is seen as a payment credited to you against any final tax liability upon your eventual exit from the fund. Photograph: iStock

Exit tax is seen as a payment credited to you against any final tax liability upon your eventual exit from the fund. Photograph: iStock

 

I took out an investment bond with Zurich in 2003. It was known as Eagle Star at the time. After eight years, Zurich deducted tax at then rate of 30 per cent on my investment return and, in a letter explaining this, Zurich gave my policy a revised value of €69,782.83

The investment is now nearing another eight-year tax levy and I do not understand the amount of tax deduction. I queried it with them and they replied as follows: “Policy Value at 17/10/2019 less (Premiums Paid - Tax Paid at 8th Anniversary) = Taxable amount”. Tax = 41 per cent of Taxable Amount less Tax Paid.

I thought that Tax should be 41 per cent on investment growth since 16/10/2011.

It seems that I am being charged 41 per cent (an extra 11 per cent to that already paid) on growth of first eight years, which seems unjust as exit tax then was 30 per cent.

Mr B.F., email

I think you are slightly confused by the nature of exit tax but, having said that, it took me some time to get my head around some of what Zurich was saying.

In 2001, Revenue changed the rules on how it taxed these sort of funds. Until then, tax was deducted every year, assuming the fund had made money in that year. Following lobbying from the industry who argued, apart from the administrative burden, that this approach held back such funds from building up gains for investors, taxation was switched to what is called gross roll-up.

Essentially, the fund would be taxed when it matures or is drawn down. To compensate for the loss of annual tax revenue, a three percentage point surcharge was put on the tax bill.

Things have evolved from there. To avoid people simply leaving money in such funds for open-ended periods, it was decided to tax gains on every eighth anniversary of the investment. And the three percentage-point premium has disappeared as the exit fund tax rate has risen.

Eventual exit

But some things remain the same, the exit tax is seen as a payment credited to you against any final tax liability upon your eventual exit from the fund.

So, as it stands, every eighth anniversary, Revenue taxes the profit in the fund – all the profit. The tax applied depends on the rate in force at the time.

Eight years ago, you paid tax of almost €4,200 on the profit in your fund at that time when the tax rate was 30 per cent.

Now, however, as another eight-year anniversary looms, the tax rate is 41 per cent. Zurich applies this rate to all profits your fund has made, right back to when you first made the investment back in 2003.

Of course, you have paid tax already so when it gets to the tax bill, Zurich deducts whatever amount you have already paid eight years earlier – the €4,200 or thereabouts.

In essence, yes you are paying an additional 11 percentage points of tax on the profit made in the first eight years of the investment and 41 per cent on everything it has made since that first tax bill was levied.

In Revenue’s words: “Exit tax is payable on any profit made on the investment/ policy from the date it was taken out up to the date of the chargeable event. The profit is taxed at the exit tax rate applicable at the time of the chargeable event.”

On that basis, and rounding your figures for ease of understanding, your original lump-sum investment was €60,000, it is now worth €100,000 and you have paid the €4,200 we mentioned earlier.

At first glance, you might think you simply take the premiums away from the current value to give the profit over the lifetime of the fund – so €100,000 - €60,000 = €40,000.

The €40,000 is taxed at 41 per cent, giving you a tax bill of €16,400. But you have already paid €4,200 eight years ago. This is deducted from the tax bill, leaving you with a bill of €12,200.

But, as Zurich points out, it is slightly more complicated than that. In Zurich’s letter to you, and their response to my query, they say you deduct the premiums from the current value of the fund but then you add the tax already paid to give you the taxable sum – so, in your case, €100,000 - €60,000 + €4,200.

Taxable profit

This matters because that now gives you a taxable profit of €44,200 – which is more than the headline profit you have on the fund’s current value. And 41 per cent of that is €18,122.

Even when they allow for the tax already paid, this leaves you with a current bill of €13,922.

To be fair, Zurich is right. And it is simply following the Revenue manual in how these things are worked out.

Remember what I said, quoting Revenue, about exit tax being due on ANY profit made over the period of the investment? Well, while your fund may be valued now at €100,000, it would have been worth €104,200 had you not paid the tax in 2011. So this €4,200 that you paid in tax came from the profits made and has to be included in order to sort out the full profit made on your investment to date.

And, as you can see, they do still deduct this €4,200 from the tax bill ultimately calculated on this 16th anniversary of the investment.

In formal terms, it makes little difference ultimately. These payments are all credits against your eventual tax liability when you cash in this bond and any overpayment will be returned to you.

Just one other thing to remember; tax rates can go down as well as up. And, as Revenue says, “when the investment/life policy is ultimately cashed in, tax is charged at the tax rate that is applicable at that point in time”. If, at that time, the applicable rate has fallen from the current 41 per cent, you would be in line for a refund. Of course, Revenue would have had the use of the money in the interim.

Please send your queries to Dominic Coyle, Q&A, The Irish Times, 24-28 Tara Street, Dublin 2, or email dcoyle@irishtimes.com. This column is a reader service and is not intended to replace professional advice.

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