Endowment Policies

UK Endowment Policies

As a New Zealand tax resident who used to live in the UK, you may still have a UK endowment policy. They don’t normally generate any income until they mature, but what is the tax treatment of such policies in New Zealand?

What is an endowment policy?

In the UK, an endowment policy is a type of life insurance policy that is often used as an investment product. Endowment policies are typically designed to provide both a life insurance benefit and a savings or investment component. They were popular in the UK in the 1980s and 1990s as the maturity benefits were touted as a means of repaying a mortgage debt. They fell out of favour when returns on the product started to reduce and it became unlikely that the endowment policy would produce enough on maturity to repay the associated mortgage.

Why do people still have them?

They were often 20 to 35-year products with maturities linked to the date the associated mortgage was supposed to be repaid. With large terminal bonuses paid on maturity, a lot of the return came at the end, making the continued payment of monthly premiums a viable option. They are not very common these days, but those that I come across tend to be at or close to maturity.

What is the New Zealand tax treatment?

Endowment policies are insurance products and therefore fall within one of the types of foreign investments that are classed as Foreign Investment Funds (FIF). As such, a calculation has to be made each year under the FIF rules to determine whether an element of notional income has to be entered on your New Zealand tax return. The most common calculation methods are the Fair Dividend Rate (FDR) method and the Comparative Value (CV) method. The former will result in notional taxable income of 5% of the value of the policy at the start of the tax year, and the latter calculates the annual gain as the value at the end of the tax year minus the value at the start of the tax year. In the year of maturity, the CV income would be calculated as the maturity proceeds minus the value at the start of the tax year. Needless to say, the rules are often more complex than this.

What if you haven’t been accounting for FIF income previously?

You might want to consider making a voluntary disclosure to IRD for any years in which you have not declared FIF income on your endowment policy. This will involve telling IRD why you have not disclosed the income, how much it is, what the underpaid tax amounts to. You will be charged interest on late paid tax, but should avoid getting charged a penalty for making a voluntary disclosure. Note that under international financial reporting rules, the IRD may learn of any payments made to you, such as the payment of the maturity proceeds from your endowment policy. If you don't make a voluntary disclosure you therefore run the risk of an IRD audit and the imposition of penalties for failure to declare income.

Similar products

Endowment policies were often linked to mortgages, but they could betaken out without there being an associated mortgage. Similar products, being insurance-based and with an investment aspect, were investment bonds. These were either onshore (to the UK) or offshore, and usually had a fixed maturity period. The same New Zealand tax treatment applies to such products.