A recent supplement in the Financial Times on Saturday was entitled 'Tax Efficient Investments'. This was really a misnomer since investments are rarely tax efficient in themselves and the survey would have been more accurately, if less punchily, entitled 'Tax Efficient Vehicles and/or purposes for Holding Investments' (which, to be fair, was acknowledged in the body of the supplement).
Of course, public or political policy may consider some investments privileged and, as a result, they may be treated tax efficiently in themselves. But, by and large, investments only become tax efficient when held by a tax efficient vehicle and/or for a tax efficient purpose.
However, since financial products are usually marketed as composite products with the vehicle 'welded' to the underlying investment, it is easier to talk about (and market) the composite product as 'the investment'. But, in reality, there are three quite separate elements to a financial product which can be summarised using the following equation:
Financial Product = Underlying Investment Strategy x Financial Services x Vehicle and/or Purpose
The highly-personalised insurance bond, for instance, was a step in the direction of providing a modular rather than a composite product whereby the investor could himself pick the underlying investments or appoint his own investment adviser and insurance company to provide the vehicle (ie the insurance policy) with custody and book-keeping services.
The Inland Revenue's (IR) enormous hostility towards the highly-personalised insurance bond – as demonstrated in the Willoughby case and the 1998 Finance Act – seems to follow not from the fact that these insurance policies had little or no insurance risk (the Court of Appeal ruled in 1996 in the Fuji v Aetna case that it is not necessary for the insurer to be exposed to any insurance risk at all for its products to be treated as insurance policies) but solely because of their modular structure.
However, as personal wealth increases, the demand for bespoke, modular financial products will increase and offshore financial service providers and the offshore centres themselves are well-placed to be responsive to these needs by being able to quickly develop flexible offshore financial products, in the case of both off-the-shelf products and bespoke products.
The IR seems quite happy with offshore insurance bonds where the underlying investments are menu-driven. However, it will be interesting to see what the IR's reaction will be if insurance companies begin to enhance these products by bolting on banking services so that the investments in the policy can be automatically liquidated to feed a related bank account operated by the policyholder.
Individuals are increasingly internationalising themselves, their families and their assets without being fully aware of the consequences of becoming connected with new jurisdictions or becoming disconnected from their old jurisdictions. These consequences can include family law, inheritance laws and forced heirship rules, probate requirements and taxation.
The tax and regulatory environments both onshore and offshore are becoming more complicated and aggressive both for the investor and for the financial product provider. The benign withholding tax regime for foreigners investing in the UK and the benign domicile rules for foreigners living in the UK may not withstand the onslaughts of the EU's initiative to end unfair tax competition. However, these initiatives are likely to have a greater impact on the onshore finance industry than the offshore finance industry.
The current debate in the UK (prompted by the issue of the draft General Anti-Avoidance Rule) on the limits of acceptable tax planning is based on a naive, black-and-white distinction between 'tax mitigation' and 'tax avoidance', whereas in reality there is a whole spectrum of tax planning strategies running from simply accepting a relief to artificial tax avoidance schemes. Clients should always be advised at which end of the spectrum the tax planning strategy utilised by the product lies.
Jonathan Crowther is director of the Cater Allen Trust.