Onshore investment bonds are not new, but they have been getting a lot more attention in 2026. In September, a Telegraph article described them as an asset wealthy families are using to cut inheritance tax bills. At the same time, two other changes are making people look again at how they hold their savings and investments: from April 2027, unused pension funds and certain pension death benefits are expected to become subject to inheritance tax in many cases and the rate of income tax on savings rises by two percentage points from the same month.

If you have come across onshore bonds for the first time, this guide explains what they are and how they work, in plain English. It covers how they are taxed, how withdrawals work, what top-slicing relief means, how bonds are used with trusts, and the drawbacks you should weigh up. If your main interest is inheritance tax, our separate guide to using onshore bonds for inheritance tax planning goes into that in more depth.

What is an onshore investment bond?

An onshore investment bond is a way of holding investments that is technically a life insurance policy issued by a UK insurance company. You invest a lump sum, and the insurer invests it in a range of funds that you and your adviser choose. Minimum investment levels vary between providers and products.

The life insurance element is usually very small; most bonds pay out only slightly more than the value of the investments when the policy ends on death. What matters is that, because the bond is an insurance policy, it is taxed under a different set of rules from an ISA, a pension or an ordinary investment account. Those rules are what make bonds useful in some situations and less suitable in others.

How does an onshore investment bond work?

It can help to picture the bond as a box. Your money goes into the box, and inside it sits a portfolio of funds. You can switch between funds inside the box without creating a capital gains tax bill, because you have not taken anything out.

Most bonds are split into a number of identical smaller policies, often called segments. A £200,000 bond might be made up of 100 segments of £2,000 each. This gives flexibility later on: you can cash in some segments and keep the rest, or transfer some to someone else.

Every bond is written on one or more lives, known as the lives assured. The bond carries on until either you cash it all in or the last life assured dies. Choosing who the lives assured are, and who owns the bond, is an important decision when a bond is set up, particularly if it will be used for estate planning.

UK onshore investment bonds may benefit from protection under the Financial Services Compensation Scheme as long-term insurance contracts if the insurer fails. The type and level of protection depends on the product, the provider and the nature of the claim, so it should be checked for the particular bond.

How are onshore bonds taxed?

There are two layers to think about: the tax paid inside the bond, and the tax you may pay when you take money out.

Inside the bond, the insurer pays UK tax on the income and gains of the underlying funds. How much tax is suffered varies with the type of investments held, and you cannot reclaim it, even if you are a non-taxpayer.

When you cash in all or part of a bond, any profit is called a chargeable gain. Broadly, it is everything you have taken out, plus what is left, minus what you put in. Because tax has been paid inside the fund, the gain is treated as having already had basic-rate tax of 20% paid on it. That means:

  • Basic-rate taxpayers normally have no further tax to pay.
  • Higher-rate taxpayers pay a further 20% on the gain.
  • Additional-rate taxpayers pay a further 25% on the gain.

The gain is taxed as income, not as a capital gain, and it is added on top of your other income for the tax year in which it arises. That is why a large gain could push you into a higher tax band. It is also why the timing of when you cash in a bond matters so much.

What changes from April 2027?

From 6 April 2027, the savings basic rate will increase from 20% to 22%, with the savings higher and additional rates increasing to 42% and 47% respectively under the Finance Act 2026. Chargeable event gains on UK investment bonds are treated as savings income, and for onshore bonds the deemed tax credit will also increase from 20% to 22%. As a result, many higher-rate and additional-rate taxpayers may see little change in the effective additional tax payable on a gain, although the exact outcome will depend on individual circumstances and the availability of reliefs such as top-slicing relief.

How does the 5% tax-deferred withdrawal allowance work?

Each policy year, you can usually withdraw up to 5% of the amount originally invested without triggering an immediate chargeable event gain for income tax purposes. Any unused allowance carries forward, so after four years with no withdrawals you could withdraw up to 20% of the original investment. The allowance can continue to accumulate for up to 20 years, allowing withdrawals of up to 100% of the premiums paid.

It is important to understand that this treatment is tax-deferred rather than tax-free. The withdrawals are treated as a return of capital at the time they are taken, but they are generally brought back into account when the final chargeable gain is calculated.

For example, suppose you invest £200,000 and withdraw £10,000 each year for ten years, a total of £100,000. If you then fully surrender the bond when it is worth £180,000, the chargeable gain would generally be £180,000 plus the £100,000 previously withdrawn, less the original investment of £200,000, giving a gain of £80,000. Nothing has been taxed along the way, but the £80,000 gain would ordinarily be assessed for income tax purposes when the bond is surrendered, potentially with top slicing relief available.

One point to be aware of is that if you withdraw more than your accumulated 5% allowance in a policy year, the excess may give rise to an immediate chargeable gain, regardless of the bond’s actual investment performance. In addition, fully surrendering individual policy segments can produce a different tax result from making a partial surrender across the whole bond, so the method used to take withdrawals can be very important.

What is top-slicing relief?

Top-slicing relief stops a gain that has built up over many years being taxed as if it had all arisen in one year. In simple terms, the gain is divided by the number of complete years the bond has been held to give a slice. If that slice fits within your basic-rate band, much or all of the gain can be treated as falling in the basic-rate band too.

Continuing the example above, the £80,000 gain divided by ten years gives a slice of £8,000. If you are retired with an income of £30,000, adding £8,000 still leaves you within the basic-rate band, so there would normally be no further tax to pay. Without top-slicing, adding the full £80,000 to your income would push much of the gain into the higher-rate band.

The rules on how many years are counted differ slightly depending on the type of gain, and the calculation itself can be complicated. It is also worth knowing that a gain still counts in full as income when working out whether your personal allowance is reduced or whether the High Income Child Benefit Charge applies; top-slicing relief does not help with those.

How can the tax on an onshore bond be managed?

Much of the value of a bond comes from controlling when, and by whom, the gain is taxed. In practice, advisers usually look at a few things:

  • Timing: Cashing in during a tax year when your income is lower, often after you have retired, can mean less tax or none.
  • Who cashes it in: Assignments for money or money’s worth are generally treated differently. An assignment by way of gift will not generally create a chargeable gain at the point of assignment, although inheritance tax and other tax consequences still need to be considered. A later gain is then normally assessed on the new owner.
  • Using the 5% tax-deferred withdrawal facility: Up to 5% of cumulative premiums can generally be withdrawn each policy year without an immediate chargeable event tax charge. However, this is a tax deferral mechanism rather than a tax-free allowance, and any deferred gain is usually taken into account when a later chargeable event occurs.
  • How withdrawals are taken: Taking money across the whole bond or by cashing in individual segments can lead to different tax outcomes.

Why might someone use an onshore bond?

Onshore bonds tend to suit a fairly specific set of circumstances. They are often considered by people who:

  • have already used their ISA allowance and made the pension contributions they want to, and have more to invest
  • pay higher or additional-rate tax now but expect to be basic-rate taxpayers when they take the money out
  • want an investment that produces no taxable income each year and needs no annual tax reporting while it is invested
  • want to switch between funds without creating capital gains tax bills
  • want to pass on wealth gradually, by assigning segments over time or by placing the bond in a trust

How can an onshore bond be used with a trust?

Bonds are popular with trustees because they are simple to look after. They produce no income each year, so there is usually no annual tax return to complete for the bond itself. Trustees can also assign segments to individual beneficiaries when the time is right. There are three trust arrangements that are commonly used with onshore bonds, and they differ mainly in how much access you keep.

Gift trust

You give a lump sum to a trust, which invests in a bond for the people you choose. You cannot have the money back. Provided you survive seven years, the gift falls outside your estate for inheritance tax, and any growth is outside your estate from the start.

Loan trust

Instead of giving money away, you lend it to the trustees, who invest it in a bond. You can ask for the loan to be repaid, often as regular payments using the 5% allowance. The loan itself stays in your estate, but the growth on it does not.

Discounted gift trust

You give a lump sum but keep the right to fixed regular payments for the rest of your life. Where HMRC accepts that a discount applies, part of the transfer may be treated as outside the estate immediately. The size of that immediate saving depends on your age and health, and the payment level cannot be changed once it is set.

Most new trusts are discretionary. Gifts into them above the available nil rate band can face an immediate 20% inheritance tax charge, and there can be further charges every ten years. As a broad principle, gains on a bond held in trust may be taxed on the person who set up the trust, on the trustees or on a beneficiary, depending on the type of trust and whether the settlor is alive and UK resident. The actual treatment depends on the type of trust, the settlor, the trustees, the beneficiaries and their circumstances, so this is an area where tailored advice is essential. Most trusts also need to be registered with HMRC’s Trust Registration Service. For more on the different types, see our guide to passing on wealth through trusts.

Do onshore bonds reduce inheritance tax?

Not on their own. If you own an onshore bond in your own name, it counts as part of your estate in the same way as your savings or your home.

What can change the inheritance tax position is who owns the bond, such as a trust, and how long you live after making a gift. That is where most of the planning lies, and where the choice between a gift trust, loan trust or discounted gift trust really matters.

Who might an onshore investment bond be suitable for?

An onshore bond may be worth considering if you have a lump sum to invest for the medium to long term, you have used your other tax-efficient allowances, and you are, or expect to be, a basic-rate taxpayer when you take money out. It can also suit people who want to start passing on wealth in a controlled way.

For some investors, simpler wrappers such as ISAs or general investment accounts may be more appropriate. Their relative tax treatment and suitability depend on the individual’s circumstances and objectives.

What are the disadvantages or risks?

  • Non-reclaimable tax: The tax paid inside the fund cannot be reclaimed, even by non-taxpayers.
  • Gains taxed as income: Gains are taxed as income rather than as capital gains, so the capital gains tax exemption and capital gains tax rates do not apply. For some investors, holding the same funds directly could work out cheaper.
  • Charges: There are product, fund and advice charges to weigh up.
  • Partial withdrawal trap: Taking too much in one policy year can create an unexpected tax bill.
  • Trusts are hard to undo: Most trusts cannot be reversed once they are set up.
  • Investment risk: The value of the funds can fall as well as rise.
  • Tax rules can change: As the April 2027 changes show, the tax rules can change during the life of a bond.

Onshore vs offshore investment bonds

Offshore bonds work in much the same way but are issued by insurers based outside the UK, commonly in the Isle of Man, Ireland or Luxembourg. The funds inside can usually roll up with little or no UK tax during the investment period, although overseas taxes and withholding taxes may still apply. Gains are not treated as having had any UK tax paid on them, so they are taxed at your full rate when they are realised: 20%, 40% or 45% today, and 22%, 42% or 47% from April 2027.

Offshore bonds can suit people who expect to have little other income when they cash in. Depending on individual circumstances, available allowances and reliefs may reduce the tax payable on a gain. They can also suit people who may live abroad in future, since time spent living outside the UK can reduce the taxable gain. Onshore bonds are often simpler for people who will remain UK basic or higher-rate taxpayers. Investor protection arrangements for offshore bonds depend on where the insurer is based, so they should be checked for the particular product. Both types can be held in the same kinds of trust.

How we talk clients through an onshore bond

When we discuss onshore bonds with clients, we rarely start with the product itself. Instead, we start with four questions:

  • What will this money be needed for, and when?
  • Do you need access to it or an income from it?
  • What rate of tax are you likely to be paying when it is taken out, not just today?
  • Who do you ultimately want to benefit?

The answers often make the choice clear, whether that is an onshore bond, an offshore bond, an ISA or a combination. Sometimes they show that a bond is not the right answer at all.

If you would like to understand whether an onshore investment bond could have a place in your plans, we advise individuals and families across Worcestershire and Warwickshire on investment planning and inheritance tax and estate planning. Request a call back and we will be glad to talk it through.

Sources

The Financial Conduct Authority does not regulate tax or estate planning, or trusts. Tax treatment depends on individual circumstances and may be subject to change. The examples in this article are simplified illustrations based on 2026/27 rates and are not a recommendation. The value of investments can fall as well as rise, and you may get back less than you invest. This article is for information only and does not constitute personal financial advice.