2. Deposit-based investments Flashcards
What is a deposit-based investment? Examples?
2.1 Introduction
Original capital does not grow however the provider pays interest on the investment.
Examples:
* Bank and Building society accounts
* NS&I products
* Offshore deposits
* Credit Unions
Why might investors choose a deposit-based investment?
2.1 Introduction
Attitude to risk - Capital is not at risk from investment fluctations. The nominal value will remain the same, however, inflation may errode it’s true value.
Protection - Deposit-based investments are protected by the FCSC.
Access - Flexibility, quick access
Simplicity - Easy to understand and manage
Tax efficiency - Interest is taxable but access to savings allowance and starting-rate band for low income earners
Charges/costs - Noexplicit charge to investors
Deposit-based investments vs asset-backed investments
2.1 Introduction
Deposit-based investment returns over the long term have proven unattractive compared to asset-backed investments
Deposit-based no volatiity, low risk (only inflationary risk, typically)
Schroders tenyear return forecasts (2023–32) estimated in December 2022 that ten‑year cash returns
in the UK between 2023 and 2032 will be 2.2 per cent compared with equity returns
of **9.7 per cent **(Schroders, 2022).
Timescale for deposit-based investments
2.1 Introduction
Less than five years
What is a proprietary organisation?
Examples
2.2 Bank and building society accounts
- Owned by shareholders
- Subject to company law
- Aim: Satisfy shareholders
- Can raise funds from any legitimate source
What is a mutual organisation?
Examples
2.2 Bank and building society accounts
- Owned by its members
- Investors holding share accounts qualifiy as members of the mutual organisation
- Members have voting rights and a say in how the organisation is run.
The Building Societies Act 1986 limits the ways in which building societies can raise
funds and the types of activities in which they can engage
* Raise the majority of their funds through savers
* Can raise a maximum of 50% of their total liabilites on the wholesale money market. This can be raised to 75% under ‘The Butterfly Act 2007)
Examples:
* Building societies
What is a deposit account?
What are they useful for?
2.2.1 Deposit accounts
Most simple form of bank account/ Building society share account is similar
* Cash deposit held with bank, interest is provided on the sum held
* Interest is usually variable - chaning in line with the base rate
* Many firms offer accounts that pay higher interest in return for a specified notice period - withdrawals before this time will result in a penalty
* Basic deposit accounts are ideal for emergency funds or short‑term needs
What is a Fixed‑interest account?
What are they useful for? Considerations?
2.2.2 Fixed‑interest accounts
Fixed‑interest accounts offer savers a higher rate of interest than a deposit account in return for the saver losing instant access to their money.
Important restrictions may include:
* No access to the cash during the fixed term;
* Penalty‑free access to a limited sum during the fixed term;
* Access to the funds subject to an interest‑based penalty.
Fixed‑interest accounts are suitable for those seeking higher interest rates and not wishing to have access to their funds during the fixed term.
How is income from deposit accounts taxed?
Sources?
2.2.6 Taxation of deposit‑based accounts
- Interest on deposit accounts is treated as savings income
- Received gross
- Amounts exceeding the personal savings allowance is treated as earned income
This includes interest recieved from:
* Banks, building societies, credit unions, NS&I
* Gilts, corporate bonds, and Permanent Interest bearing shares (PIBS)
* Non-equity UT and OEICs
* Interest element from purchase life annuities
* Peer-to-peer lending
Personal savings allowance?
2.2.6 Taxation of deposit‑based accounts
An exemption on income from interest
- Basic taxpayer = £1000
- Higher taxpayer = £500
- Additional taxpayer = £0
Interest received above this amount is charged at the taxpayers highest marginal rate of income tax - added as earned income
When calculating the level of PSA, it is the individual’s net adjusted income that is used. This is their income less any reliefs such as trading losses, pension contributions and gift aid donations.
Taxation of investment bonds & the PSA
onshore and offshore?
2.2.6 Taxation of deposit‑based accounts
No UK tax on offshore investment bonds, and gains are treated as income for tax purposes.
* Non-qualifying offshore life assurance policies qualify for the personal savings allowance.
* This means that the first £1,000 or £500 of chargeable gains each year could fall within the PSA
Onshore investment bonds have 20 per cent tax deducted in the fund
* PSA is dealt with through a tax credit for the investor
What is the starting-rate band?
2.2.6 Taxation of deposit‑based accounts
An exemption on income from savings interest for those of a low income.
Applies to those who’s total earned and non-savings income is less than £17,570
* Personal allowance (£12,570) + Starting rate band (£5,000)
The starting-rate is reduced by £1 for every £1 of earnings above the personal allowance
The next £1,000 of savings interest will be within their personal savings allowance
and not taxable (From Savings allowance)
What products are available under the NS&I umbrella?
2.3 National Savings products
- Direct ISA.
- Direct Saver.
- Income Bonds.
- Investment account.
- Junior ISA.
- Premium Bonds.
What is a premium bond? Key points.
2.3.1 Premium Bonds
- Deposit account offering ** monthly tax-free cash prizes** based on the value of funds held.
- Minimum holding £25, Maximum £50,000
- Bonds can be enchased at anytime, no penalty
- Must be 16+ to open.
Traditional interest is not provided on funds held on deposit
What are Income bonds (NS&I)?
2.3.2 Income Bonds
- Offeres regular monthly interest payments
- Must be 16+ to open
- Interest is variable and paid on the fifth day of each month.
- Minimum investment is £500
- Maximum is £1m.
- The income bond may be held for an initial period of ten years.
- Can be cashed in at any time with no notice or penalty.
Not be confused with Guaranteed Income Bonds, which offer a guaranteed rate of interest for a set period.
NS&I product - Direct ISA, what are they?
2.3.3 Direct ISA
Subject to the usual ISA rules however:
* Protection - NS&I Direct ISA: 100% guaranteed by the UK government, with no cap on protection, making it safer than traditional ISAs for very large sums
* * Interest rates may not be as high as other ISAs
NS&I - Direct saver?
2.3.4 Direct Saver
Subject to a regular savings account.
* Protection - NS&I Direct ISA: 100% guaranteed by the UK government, with no cap on protection, making it safer than traditional ISAs for very large sums
* Interest rates may not be as high as other savings accounts
NS&I - Junior ISA
2.3.5 Junior ISA
- Can be opened by a parent or legal guardian for children under 18, or by children aged 16 to 18.
- Minimum investment is £1
- contributions allowed up to the annual limit for that tax year.
- JISA is online only
- no access to funds until the child turns 18.
- At age 18, funds automatically transfer to a standard NS&I ISA.
- The child gains access and control over the account at age 18.
NS&I - Guaranteed Growth Bonds
2.3.7 Guaranteed Growth Bonds
- Lump-sum investment for a one year term
- Maximum investment £1m, Min £500
- Interest is guaranteed, paid at the end of the term
Interest is eligible for the PSA and the starting rate, where applicable
What is the additional risk to an investor investing in non-sterling currencies?
2.5 Offshore deposits
Adverse currency movement if the investment is to be converted back to sterling
* If the currency invested in is weak against sterling, the true value of the investment will degrade when converted back.
Taxation of offshore deposits - remittance basis
2.5.1 Taxation of offshore deposits
A UK resident who is not domiciled in the UK can choose to pay UK income tax only when the interest is remitted to the UK.
Remittance basis
Overseas income is remitted if it is brought into the UK. The remittance basis is where an individual who is UK resident but non-domiciled chooses to be taxed on overseas income only when it is remitted to the UK.
Sharia‑compliant investments - prohibitions and considerations
2.6 Sharia‑compliant investment
- Cant accept or give interest - instead, return given through a commodity murabaha
- Investment in ‘unethical areas’ is not permitted (Gambling, alcohol, porn, tobacco)
- Additional legislation around contract - there must be no major uncertainty regarding the existence, ownership and availability of the object, or its price and delivery
Deposit-based investments: Risks to consider
The use of deposit‑based accounts
2.7.1 Risk profile
- Safety of the original capital
- Inflation
- Expected level of return
