The collapse of the Isle of Man arm of Icelandic bank Kaupthing Singer & Friedlander (KSFIOM) last month has left thousands of investors in offshore bonds fearing for their savings with the institution.

The issue highlights how offshore bondholders can be at the mercy of a foreign compensation scheme even if they invest through the international arm of a UK insurer.

While people who invested directly in KSFIOM will benefit from the Isle of Man’s investor compensation scheme, which has raised its limit to £50,000, those with cash deposits held through investment bonds face getting next to nothing.

This is because the Isle of Man says insurers and not policyholders are entitled to claim compensation. Life insurers, such as Skandia International for example, can claim only one £50,000 compensation payment for all its 600 policyholders who have a total of £65m in the bank.

About £300m is believed to have been invested in the stricken bank through UK investors who have taken out offshore bonds with the international divisions of a number of insurers, including Aegon Scottish Equitable, Axa and Prudential.

While those investors sweat on the negotiations taking place with the Manx government, many holders of offshore bonds are questioning the security of other types of investments held within the products.

Most UK investors in the more common offshore jurisdictions would ultimately have recourse to the UK Financial Services Compensation Scheme (FSCS) if a provider collapses, be it Royal Skandia based in Dublin or Axa International, based in France.

However, this cover applies to the bond’s provider, not the underlying investments.

“Most UK policyholders who bought offshore bonds would be covered provided they were issued through a provider registered in the European Union or EEA, which includes Iceland, Switzerland, Liechtenstein and Norway, or the Channel Islands,” said Sarah McShane of the FSCS.

“But to qualify they have to have been resident in the UK at the time they bought the policy, and they must have bought it after December 1, 2001.”

There are three asset types typically held within offshore bonds that could leave investors wondering how much protection they have — cash on deposit, structured products and insurance policies.

Robert Lockie, a certified financial planner at Bloomsbury Financial Planning, said that the most common types of investment in offshore bonds — unit-linked mutual funds such as unit trusts and open-ended investment companies (Oeics) — were the least problematic asset classes of all and compensation schemes were unlikely to be a problem.

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