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Tax Free Cash 

Your pension will pay a lump sum of up to 25%, you do not have to buy an annuity with this. Here are some alternative investments that could provide you with an income

  • National Savings
  • Collective Investments
  •  ISAs
  • Investment Bonds

NATIONAL SAVINGS

National Savings products are government products, which can be bought and cashed easily through post offices.  Products are guaranteed by the government and are not deemed to be investments under the Financial Services Act.

NATIONAL SAVINGS BANK ACCOUNTS

are offered through the post office to anyone over the age of seven.  There are ordinary and investment accounts.  The former offers instant access and interest that is payable gross.  The first £70 of interest per annum is not subject to tax, however, any excess will be fully taxable.  The investment accounts offer a higher rate of interest, however, withdrawals are subject to one months notice in order to avoid penalties.

NATIONAL SAVINGS FIXED INTEREST CERTIFICATES

are savings contracts that are available for limited periods.  At the end of each period a new issue will be available and each one will have a different rate of interest.  There is a minimum investment of £100 and a maximum of £15,000, although matured certificates can be reinvested without limits.  Interest is accumulated during the fixed term of either two or five years, the term is selected at outset.  If the certificate is not redeemed at the end of the period, an extension rate of interest will apply, although this is rarely competitive.  The certificates are exempt from income and capital gains tax and the value cannot go down.  If the certificates are redeemed before the end of the fixed term, the guaranteed growth rates will not apply.
 

NATIONAL SAVINGS INDEX LINKED CERTIFICATES

are also available over three and five year terms.  The growth is linked to the increase in the Retail Prices Index (RPI) over the selected term.  Returns are free of income and capital gains tax, however, if the plan is surrendered within the first year only the initial capital will be repaid.  After this time, the redemption value will match inflation; the full return will not be available until the end of the selected term.  Proceeds are free of income and capital gains tax and the investment limits are the same as for Fixed Interest Certificates.

Also available is a range of income, capital growth, and fixed rate bonds, along with bonds specifically designed for Pensioners and Children.  Apart from the Children’s bonus bond, returns are all subject to income tax.  The returns from Premium Bonds are not subject to tax, however, there is no guarantee of any return.  The terms, conditions and investment limits vary between contracts.  Full details can be obtained from your Adviser.

COLLECTIVE INVESTMENT SCHEMES

UNIT TRUSTS AND OPEN ENDED INVESTMENT COMPANIES (OEICS)

allow investors to participate in a large portfolio of securities or other assets with many other investors.  Investors have a direct holding in the company that holds and manages the underlying assets, they buy and sell units within the fund, rather than dealing with the underlying assets.  This enables investors to access a wider spread of investments at a lower cost than would otherwise be available.

OEICs are very similar to unit trusts, and many unit trusts are converting to OEICs.  They are the most widely recognised type of collective investment in the USA and Europe.  Regulations allow multiple share classes, which allow for more flexible charging and currency structures that are possible for unit trusts.

Unit Trusts and OEICs have no fixed term.  There is a direct relationship between the value of the holding and the unit price.  Some funds have a minimum investment level, but the majority will accept both regular and lump sum premiums.  Unit trusts and OEICs are the most common funds for use within an ISA wrapper.  There are many different categories of investment that can be broadly grouped into four areas, funds targeting income, capital growth, rising income, and specialist sector funds (including property, which is a fairly new addition to the Unit Trust or OEIC range of funds).  Funds that produce income can often also be used for capital growth purposes where the dividend income is reinvested

Unit trusts and OEICs are collective investments that enable investors to pool money with other investors who have similar investment objectives. Experienced investment managers then invest the funds into different assets in financial markets. This can include a wide range of local and international shares or equities (companies listed on a stock exchange), bonds, property, money market instruments and their derivatives.    

In general, funds are intended to generate income and / or capital growth in the medium to long term (three to five years and longer). Units should be held for these periods to reap the full benefit of the investment and to sustain any market ups and downs. Unit trusts and OEICs invest in a range of underlying assets. This means that all your eggs are not in one basket. Risk is spread amongst many assets rather than amongst one or only a few. If any assets perform poorly, your investment won't necessarily perform poorly as there are other assets that may have done very well.

Investments in unit trusts purchase a share of the units of the total fund. The unit price (also known as the net asset value (NAV)) is dependent on the market value of the underlying assets and therefore rises and falls. It is calculated daily. Most funds will incur an initial charge and also an annual management charge.  The initial charge is often incorporated within a “bid / offer spread”, this being a difference between the quoted buying and selling price.  OEICs are also subject to an annual management charge, however, the unit price is a mid-market price, no allowance is made for dealing costs, and any initial charge is shown separately.

Income from unit trusts and OEICs is subject to income tax at the investors highest rate.  Payments carry a 10% tax credit, however, the tax cannot be reclaimed by non tax payers or lower rate tax payers.  Higher rate tax payers will have to pay an additional 22% tax via their tax return.  Non equity unit trusts and OEICs are taxed at 20%, non tax payers can reclaim this and higher rate tax payers will be subject to an additional 20% tax.  Capital Gains Tax is payable on gains realised upon disposal of the units.  Losses can be used to offset gains, and can be carried forward to offset against future gains.  Switching between funds within the same fund management company or within a multi-fund company would not constitute a sale for CGT purposes.

INVESTMENT TRUSTS

are also collective investments.  Their shares are quoted on the London Stock Exchange.  They are closed-ended funds, which means that they have a fixed number of shares.  Investments trusts are run by a board of directors.  The directors can manage the investment of the trust themselves, however, more commonly this is contracted to an external fund management company.

The share price depends on supply and demand.  The price quoted in the press will be the mid-market price, however, dealers will quote a buying price and a selling price.  Investment trusts can be invested in any kind of company, they can invest in any country in the world as well as providing capital to new companies or companies that wish to expand.  In general investment trusts carry a higher level of risk than unit trusts and are able to borrow funds in order to make further investments.  There are various classes of share and types of investment trust.  Your Adviser will be able to discuss the options fully with you.

Individual Savings Accounts

INDIVIDUAL SAVINGS ACCOUNTS (ISAS)

were introduced in April 1999 and since then it has not been possible for new investments to be made into Personal Equity Plans (PEPs). The Government has announced that any remaining PEPs should be incorporated into an ISA arrangement.

Stocks and Shares ISAs are available to everyone over the age of 18 who is ordinarily resident in the UK.  Owing to the fact that ISAs enjoy major tax advantages, the level of investment is restricted to £7,200 (£10,200 if over age 50). Both capital profits and income receipts are totally free from any liability to tax within the fund. Dividends accruing to an ISA from UK companies were received with a 10% tax credit that the fund manager was able to reclaim, with effect from April 2004 the tax credit is no longer reclaimable. Where interest accrues to an ISA on corporate or government bond holdings, it is received with a 20% tax credit, the credit continues to be reclaimable.

There are two basic types of ISA: Maxi and Mini. The types of investment that may be contained within a Maxi or Mini-ISA are:

  • Cash;
  • Stocks and Shares (which includes unit trusts, OEICs, investment trusts etc.)

A Mini ISA may be offered as a ‘wrapper’ for both types of investment, but may not contain more than one type. A client wishing to invest in both therefore, and wanting to use different providers for each, would need to separately effect a Cash Mini-ISA and a Stocks & Shares Mini-ISA. The government has announced that where a saver has accrued a lump sum within a Cash ISA, they should be allowed to transfer this into a Stocks and Shares type arrangement without losing the tax allowances which have built up.

Maxi ISAs on the other hand may contain both types of investment within the one wrapper, but do not have to offer the cash option. Many Maxi ISAs offer investment only in stocks and shares.

An investor may invest either in one Maxi ISA or up to two separate Mini ISAs in any tax year. Maxi and Mini ISA options may not be mixed however, so it is not possible, say, to invest £3000 in a stocks and shares Maxi ISA whilst effecting a £1000 cash Mini ISA with another provider, even if the Maxi ISA provider does not offer a cash deposit option.

The £7,200 annual ISA limit can be investment in stocks and shares \ corporate bonds or £3000 in cash.

There is a specific type of ISA, which meets Government stakeholder guidelines. Both the cash and stocks and shares elements of ISA component can qualify for stakeholder standards. The cost limit varies with each investment type and the access and terms criteria specify that investors must be able to get their money back at any time without penalty and with no other restrictions. The ISA must also offer low minimum investment limits. 

Because of these limits, stakeholder standard Stocks and Shares ISAs tend to invest in basic funds that are designed to meet the needs of a wide range of investors. For this reason, they may be less appealing to experienced investors who want to maximise their long-term growth potential and are therefore more likely to seek specialist funds.

The presence or absence of a stakeholder standard cannot predict whether an ISA will prove to be a good or bad investment. A stakeholder ISA has not received Government approval of any kind, nor is your money or investment return guaranteed by the Government in any way.

Investors have no personal liability to income tax or capital gains tax on income or gains arising from investments held within an ISA. Equally, capital losses cannot be used to offset capital gains realised elsewhere. No details of ISA investments, income received or gains realised need be included on your annual tax return.

ISAs will be available until at least 2010. This is the first time that a government has guaranteed the continuance of any tax-free product for such a period.

INVESTMENT BONDS

are single premium, whole of life contracts that carry minimal life cover.  The bond commences on the date the investment is made and ceases on either the death of the life (or lives) assured or when fully encashed.  It offers the potential for capital growth and the ability to take regular or irregular withdrawals.  Currently, withdrawals of up to 5% a year are treated as return of capital, so you do not have any tax to pay at the time of the withdrawal.  This 5% allowance is cumulative if not used in whole or in part.

Bonds are open ended, with money available for withdrawal at any time. Similarly, additional money may be invested in the fund at any time. Some funds may impose an early encashment charge, or may reserve the right to pay out at a suitable time (e.g. property funds) or may restrict or depress unit values depending on investment conditions (e.g. unitised with profits funds).  Investments can be made into a variety of funds including unitised with profits, traditional with profits, fixed interest and equity funds.  Many bonds offer the opportunity to switch between funds at minimal cost.  Many providers offer High Income and Guaranteed Income or Growth bonds, the structure of these is often more complex, full details are available from your Adviser.

You may encash the bond in whole or in part at any time to release your capital (but you should be aware of the initial charges, any penalties and tax implications).  There may be a tax liability on final encashment depending on the withdrawals made during the life of the investment and the proceeds on final encashment.

Basic rate, lower rate and non tax payers will not pay tax on investment gains unless the gain takes income into the higher rate tax bracket.

Gains are calculated using a method called “top slicing” whereby an allowance is made for the length of time the investment has been held.  If you are a higher rate tax payer, or the gain takes you over the higher rate tax limit (after allowing for "top slicing", as mentioned above), you will have excess tax to pay.  It should be noted that lower rate and non tax payers are unable to reclaim the tax that is deducted within the bond.  Withdrawals in excess of 5% per annum will be subject to tax for higher rate tax payers in the same way.

It is also important to remember, for the purposes of calculating age allowance, that any withdrawals above 5% a year will be added to your income, which could adversely affect age allowance.  In addition, when the bond is encashed, any gain, or previous withdrawals up to 5%, are taken into account, which can also adversely affect your allowance.  A fairly small gain can wipe out an entitlement to age allowance for that tax year.