While they can be used by the local population and UK residents working and living abroad, they are mainly for British residents who want to benefit from the advantages they offer.
Unlike UK investments, where income can be subject to the 20 per cent tax rate and any capital gains over pounds 6,500 are taxed at 40 per cent (with indexation allowances), all income and gains from offshore investments are liable to income tax.
Legally, any income from dividends or interest and any capital gains made offshore has to be declared. As the old saying goes, tax avoidance is fine, but tax evasion is illegal.
There are, however, means of deferring tax, and this is the main benefit offered to UK investors by offshore funds. The most popular types of investment today for the offshore investor are the so-called "roll-up" and "distributor" funds.
Distributor funds must pay out at least 85 per cent of their income as dividends. Investors receive the income gross and then pay income tax on this and capital gains tax on any other profits.
Roll-up funds operate in much the same way as many UK growth unit trusts in that they are accumulator funds. This means that all the income and gains made by the fund are reinvested by the fund manager. The investor will only have to pay UK tax when the investment is cashed in, which means taking the proceeds when the investor is paying little or no tax.
For this reason, roll-up funds have a useful role to play in any long- term savings plan such as for retirement. Unlike personal pensions, there is no maximum limit on how much can be invested. Higher-rate taxpayers can use such a savings vehicle, taking the proceeds on retirement when their income has reverted to basic rate.
Or an investment could be made in a child's name. The fund could then be handed over to the child at a given age, usually 18 or 21. Alternatively, income from the fund could be paid to the child on a monthly or quarterly basis when they reach 18 to fund university studies. As the child may well have other income, the income would be tax-free.
Nor does the use of roll-up funds restrict investment choice. Offshore management groups usually offer them in what are known as "umbrella funds". Here, an investor has a choice of various underlying funds, covering all areas of investment, to switch in and out of, usually at very low cost or none at all.
Investment bonds offered by the offshore branches of life offices can be used to reduce the impact of inheritance tax. This, however, is a more complicated area. Anyone who thinks their estate could be liable to this tax should take advice from an independent financial adviser.
Offshore investment also offers other tax advantages. Fund managers are not restricted by the UK's investment rules and regulations. This has benefits, although it can lead to much higher risks. Tax on any dividends earned by the fund's portfolio is only levied at the local rate, which is often nil. And capital gains made by the fund are tax-free.
Also, the only restrictions on what the funds can invest in are those imposed by the managers themselves. This means that, unlike a UK-based fund, if a manager feels that the market is about to crash, he or she can convert the portfolio totally into cash. Funds can also invest in property and other investments not open to authorised unit trusts.
When investing offshore, charges tend to be higher than for similar mainland investment vehicles. You should reckon on paying around 0.5 to 1 per cent more in annual charges.
But in return you can benefit from better performance. Over the past year, for example, the average growth fund has risen by some 18 per cent in value. This compares with the average offshore growth fund that has gone up some 22 per cent.
For safety and value, it pays the average investor to use an independent financial adviser (IFA) for advice on investing offshore. IFAs will help you avoid the pitfalls and ensure that you understand how your money is being invested and what the risks are.
For an adviser near you, contact IFA Promotion on 0117 9711177Reuse content