7 Indirect investments Flashcards
Who classifies unit trusts & OEICs?
The Investment Association (IA)
Where are the rules for unit trusts & OEICs?
FCA sourcebook COLL (Collective Investment Schemes)
Trustees/directors must ensure markets are:
- Liquid
- Operating regularly
- Regulated
- Recognised (e.g. by statutory body or government agency)
- Open to the public
What size single holding may UCITS non-tracker funds have?
Up to 4 at 10%, and no others may exceed 5%
What size single holding may UCITS tracker funds have?
20%, or 35% in exceptional circumstances
What proportion of a company/group’s securities may a UCITS fund hold?
20%
A single gilt issue must not make up more than __ of a fund’s value.
30%
How much may UCITS funds invest in other collective schemes?
20%
How much may non-UCITS funds invest in other collective schemes?
35%
How much may UCITS funds invest in unapproved/unlisted securities?
10%
How much may non-UCITS funds invest in unapproved/unlisted securities?
20%
How much dividend income is tax-free?
£2,000
How much tax do basic-rate taxpayers pay on dividends?
8.75%
How much tax do higher-rate taxpayers pay on dividends?
33.75%
How much tax do additional-rate taxpayers pay on dividends?
39.35%
What is a personal savings allowance (PSA)?
Tax-free interest income
What is the personal savings allowance for a basic-rate taxpayer?
£1,000
What is the personal savings allowance for a higher-rate taxpayer?
£500
What is the personal savings allowance for an additional-rate taxpayer?
None
What is the annual exempt amount for capital gains tax?
£12,300
To qualify for an IA sector, how much must generally be invested in the relevant asset class?
80%
To qualify as an income fund, what yield must a fund achieve?
90% of the relevant index annually
What does UCITS stand for?
Undertakings for Collective Investment in Transferable Securities
What is the limit on funds holding warrants?
None
What is the regulatory limit on funds holding cash?
None
Why might a fund hold cash?
Liquidity and cash flow
In practice, how much of a fund is typically held in cash?
Around 5%
How much may a retail UCITS scheme borrow on a permanent basis for gearing purposes?
None; gearing is not allowed for retail UCITS schemes
How much may a UCITS scheme borrow temporarily against known future cash flow, such as dividends?
10% of its value
How much may a non-retail UCITS scheme borrow on a permanent basis for gearing purposes?
10% of its value
How much may a QIS borrow?
100% of its value
What does AIF stand for?
Alternative investment fund
What are examples of AIFs?
Hedge funds and private equity funds
If gilts make up more than __ of a fund’s value, these holdings must consist of at least __ different issues.
35% / 6
What does QIS stand for?
Qualified investor scheme
Where are the rules for AIFs?
FCA sourcebook FUND (investment funds)
What does UCIS stand for?
Unregulated collective investment scheme
May a NMPI be marketed to retail investors?
No
What does NMPI stand for?
Non-mainstream pooled investment
What are examples of NMPIs?
- UCIS
- QIS
- Traded life policy investments
- SPV securities with underlying investments other than shares/bonds
What does SPV stand for?
Special purpose vehicle
What does AIFMD stand for?
Alternative Investment Fund Managers Directive
Unit trust trustees are typically…
Large banks or insurance companies
Who arranges audits of a unit trust and issues financial statements to unitholders?
The trustee
Who arranges unitholder meetings?
The trustee
Who is responsible for registering unitholders and issuing certificates?
The trustee, though they will often delegate to the manager
Who distributes income to unitholders?
The trustee
Who manages a unit trust’s assets?
The manager
What is a typical management fee for a unit trust?
0.5% - 1.5%
Who is responsible for promoting and advertising a unit trust?
The manager
Who is responsible for a unit trust’s administration?
The manager
A unit trust’s register must contain:
- Name & address of the unitholder
- Number & type of units they hold
- Date the holder was registered
Are unitholders allowed access to the register?
Yes, free of charge at all times during normal office hours (but trustee may close it for up to 30 days a year)
A unit trust certificate must contain:
- The date
- The name of the scheme
- The names & addresses of the manager & trustee
- The name of the unitholder
- Number & type of units they hold
May unit trust managers issue short form accounts?
Yes, provided full accounts are available to unitholders on request
May a unit trust manager materially alter the trust deed?
Only if approved by a unitholder meeting
May a unit trust manager raise charges?
Yes, with 60 days’ notice
Where are a unit trust’s management fees set out?
In the trust deed
May a trustee remove a unit trust manager?
Yes, with the FCA’s approval, if unitholders are at risk
How much capital gains tax do unit trusts pay?
None
What kind of tax, and how much, do unit trusts pay on income/gains from options & futures?
None
What tax regime applies to unit trusts?
It depends on the composition of investments
What tax, and how much, do unit trusts pay on interest & rental income?
Corporation tax at 20%
What is an equalisation payment?
A partial refund included with a unitholder’s first distribution
What tax applies to an equalisation payment?
None; it is a refund, not income
How much is an equalisation payment?
The income accrued between the last distribution and the date of purchase
How many times per year do unit trusts distribute income?
At least 1, usually 2, sometimes 4, and often 12 for income trusts
To pay dividends, a unit trust must hold…
Less than 60% of its value in interest-bearing investments
What type of tax applies to dividends?
Income tax
What is the tax-free dividend allowance for trustees?
None
To pay interest distributions, a unit trust must hold…
At least 60% of its value in interest-bearing investments
What is the PSA for trustees?
None
If unit trust dividends/interest are reinvested instead of distributed, does the investor pay the same tax?
Yes
For CGT purposes, units held on __ __ ____ have an acquisition cost = their value on that date
31st March 1982
When disposing of units, how do you calculate the acquisiton cost for CGT purposes?
Subtract the equalisation payment from the initial price paid
Does switching between an umbrella fund’s sub-funds count as disposal for CGT purposes?
Yes
What does TEF stand for?
Tax-elected fund
How do TEFs distribute to investors?
Interest & dividends separately, and gross of tax
Why become a TEF?
To shift point of taxation to investor
What happens if a unit trust deducts charges from capital instead of from distributions?
The quoted yield is higher but the capital performance suffers
If a unit trust deducts charges from the capital, it must…
- Include a prominent statement on all documentation
- State the resulting risk to capital growth
Which is more expensive to buy: income or accumulation units?
Accumulation units
What kind of units always reinvest income?
Accumulation units
Are accumulation units better for investors than buying more income units?
Yes, as you may have to pay all/part of the initial charge for new units
When are units most expensive?
Just before distribution
By how much does unit price typically fall after distribution?
The amount of income
How long does the xd period last?
Up to four months
What happens if you sell units during the xd period?
You still get the allocation attributable to the previous period
What proportion of UCITS funds qualify for stocks & shares ISAs?
100%
Do cash funds qualify for cash ISAs?
Yes
Do unit trusts have minimum holding requirements for investors?
Yes, typically £500 or £1,000
Do unit trusts have maximum holding limits for investors?
No
Unit trust savings schemes (often linked to ISAs) typically start at __ to __ per month
£50 - £100
Why would you complete a renunciation form?
To sell unit trust units back to the manager
If you arrange to buy/sell units over the phone, is it legally binding?
Yes
Where & when would a unit trust management group send out a contract note?
To an investor after units are bought or sold
Before executing a purchase, unit trusts must supply investors with…
A KIID (Key Investor Information Document)
After receiving a renunciation form, how long does a unit trust manager have to make payment?
4 days
What is a unit trust share exchange scheme?
Swap shares in public companies for equivalent value of units
Most unit trust share exchange schemes accept a minimum value of…
Around £1,000
Does using a unit trust share exchange scheme count as disposal for CGT purposes?
Yes
Unit trust managers may elect to operate under __ or __ pricing regulations
Single or dual
Under dual pricing, which is higher: bid or offer price?
Offer (buying) price, the price at which investors buy units
Under dual pricing, what is the bid price?
The lower (selling) price at which investors sell units back to the trust
Under dual pricing, is the initial charge included in the bid-offer spread?
Yes, it’s added to the offer price
Under single pricing, how is the unit price calculated?
Using mid-market prices for the underlying investments
What would the bid-offer spread look like for a unit trust with highly liquid investments (e.g cash or gilts)?
Low: less than 1% or even 0% for some cash funds
What would the bid-offer spread look like for a unit trust with less liquid investments (e.g. property)?
High: typically 5% - 7%
What would the bid-offer spread look like for a unit trust with less liquid investments (e.g. property)?
High: typically 5% - 7%
What does it mean if a unit trust is on an offer basis?
The manager has set the offer & bid prices towards the offer (higher) end of the range, as demand is high
What does it mean if a unit trust is on a bid basis?
The manager has set the offer & bid prices towards the bid (lower) end of the range, as demand is low
What is a ‘valuation point’ for a unit trust?
The time of day when the manager evaluates the trust’s property
How often is a unit trust’s property evaluated?
Usually daily. The manager must state the frequency in the scheme particulars
What does it mean if a unit trust uses forward pricing?
It deals at the price to be calculated at the next valuation point
What does it mean if a unit trust uses historic pricing?
It deals at the price calculated at the last valuation point
Which is more common for unit trusts: forward or historic pricing?
Forward pricing
Under what circumstances can an investor force a unit trust manager to switch to forward pricing?
If the value of the trust is believed to have changed by 2% or more since the last valuation
What charges may be associated with investing in a unit trust?
- Initial
- Annual (AMC)
- Performance
- Exit (within 5 years)
- Legal / audit fees
For a unit trust, what is an OCF?
Ongoing charges figure - includes the AMC and any other costs
For a unit trust, what is an AMC?
Annual management charge
What is another name for an OEIC?
ICVC (investment company with variable capital)
What are three ways to establish an OEIC?
- Retail UCITS
- Non-retail UCITS
- QIS
Are OEICs governed by the Companies Acts?
No
Who holds the assets of an OEIC?
An independent depository, authorised by the FCA
For an OEIC, what is an ACD?
Authorised Corporate Director
Where are the rules for selling & marketing OEICs?
FCA sourcebook COBS (Conduct of Business)
True or false: some sub-funds within an umbrella OEIC may use forward pricing while others use historic pricing
False: all sub-funds must use the same pricing basis
True or false: like unit trusts, OEICs may use single or dual pricing
True, though they usually use single pricing
Who is responsible for an OEIC’s compliance with investor protection requirements?
The ACD
Who is responsible for maintaining an OEIC’s register?
The ACD
How often do OEICs report to shareholders?
Twice a year: interim (unaudited) and annual (audited)
True or false: OEIC shares can be held in ISAs
True
What is a dilution levy?
A charge sometimes applied by single-price basis OEICs to cover dealing costs and the price spread of underlying investments
Is a dilution levy applied when buying or redeeming shares in an OEIC?
It can be applied to both
Are contract notes issued by unit trusts or OEICs?
Both
True or false: OEICs can be marketed internationally more easily than unit trusts
True, as the structure is widely recognised in Europe
True or false: OEICs may have multiple share classes
True
True or false: unit trusts and OEICs can offset management charges against dividend income for tax purposes
False. Unit trusts and OEICs can offset management charges against interest income for tax purposes
What does a “fund of funds” do?
Invests directly in other managers’ funds
What does a “manager of managers” fund do?
Appoints specialist managers to look after different parts of the portfolio
What does it mean if a “fund of funds” is “fettered”?
It can only invest in funds run by the same management group
How can a “fund of funds” mitigate the underlying funds’ charges?
Negotiating a rebate or buying an institutional class of unit/share with lower charges
What is a tax advantage of a “fund of funds”?
Managers can switch their investment between other funds without paying CGT
True or false: a “manager of managers” fund charges a separate AMC for each manager
False. Their fees all come out of a single AMC
Where are offshore funds typically based?
The Channel Islands or the Isle of Man
True or false: offshore funds may be marketed to UK retail investors without FCA recognition
False
While waiting for FCA recognition post-Brexit, EEA funds may market in the UK under the…
Temporary Marketing Permissions Regime (TMPR), until the end of 2023
What is the European equivalent of unit trusts?
“Fonds commun de placement” (FCP)
What is the European equivalent of OEICs / ICVCs?
“Société de investissement à capital variable” (SICAV)
True or false: due to fewer restrictions, offshore funds may be more specialised than UK funds
True, although highly specialist or speculative funds are not usually FCA recognised
Offshore funds with FCA approval can generally be marketed normally, but not following…
Cold-calling
If an offshore fund’s manager is not part of a UK regulatory body, what extra rule applies to its advertising?
All adverts must be approved by a member of a suitable regulator
For tax purposes, what are the two types of offshore funds?
Reporting and non-reporting
Do most UK-resident/domiciled investors prefer reporting or non-reporting funds?
Reporting funds
What is the main advantage of reporting funds?
The usual UK tax rules apply to dividends, interest, and CGT on disposal
What might disqualify a reporting fund from the usual CGT rules?
If it did not retain reporting status throughout the investor’s period of ownership
What is the tax treatment of dividends from offshore funds constituted as companies?
They are treated as foreign dividends, subject to income tax, like dividends from equities
Under what circumstances would distributions from an offshore fund be treated as interest for tax purposes?
If more than 60% of its assets are interest-bearing investments
May interest from an offshore fund be offset against the investor’s PSA?
Yes
True or false: a reporting fund is required to distribute all its income
False. However, investors are taxed for their share of the income, even if the distribution is not received
What does a reporting fund report, and to whom?
Its income, to HMRC
Non-reporting funds are usually…
Roll-up funds, i.e. all income is accumulated and no dividends are paid
What is the tax treatment of gains from non-reporting funds?
That gain is calculated using CGT rules but then taxed as income, so the CGT exempt amount does not apply
Why might a UK resident use an offshore roll-up fund?
To shelter accumulated income & realise it later, when their tax band has dropped or they are no longer a UK resident
What benefit do non-domiciled investors gain from offshore investments?
Their IHT liability is only based on their UK assets
What does AEOI stand for?
Automatic Exchange of Information
What is an example of AEOI in practice?
Foreign banks share information with HMRC about their UK resident customers, to help detect tax avoidance & evasion
Do offshore equity funds tend to focus on income or growth? Why?
Growth, as withholding taxes erode income
What is an offshore fund sector with no UK equivalent?
Currency funds, including single and managed currency funds
What is an investment trust company?
A closed-ended investment fund and a type of public limited company
Subject to any restrictions in their articles of association, investment trusts may invest in:
- Public or private companies
- Venture capital
- Any country
Who classifies investment trusts?
The Association of Investment Companies (AIC)
Why are investment trusts described as “closed-ended”?
They issue a fixed number of shares, which are traded on the London Stock Exchange
Are investment trusts allowed to gear?
Yes
What is a self-managed trust?
An investment trust which directly employs its own salaried fund manager(s)
What is a more common way of running an investment trust than self-managed?
Hiring an external management group which also provides admin, registration and accountancy
Who is responsible for looking after shareholders’ interests in an investment trust?
The independent board of directors
What are terms for the difference between the bid & offer price of investment trust shares?
The market makers’ spread or turn
Which have narrower spreads: large, generalist trusts or small, specialist trusts? Why?
Large trusts, as there is generally more demand & more stock availability
How would you calculate the shareholders’ funds for NAV purposes?
- Mid-market prices for listed investments
- Plus unlisted investments as valued by directors
- Plus cash & any other assets
- Less nominal value of loans, debentures & preference shares
How would you calculate diluted NAV per share for an investment trust?
Assume all outstanding warrants & convertible loan stocks will be exercised
If an investment trust has 100 outstanding warrants at £1 per share, what effect would this have on the diluted NAV per share?
The shareholders’ funds would increase by £100, but the number of ordinary shares would increase by 100
What does it mean when an investment trust is trading at a discount?
The share price is lower than the NAV per share
Which is less common: trading at a discount or trading at a premium?
Trading at a premium
How are discounts/premiums expressed?
As a percentage of NAV per share
What does a narrowing discount mean for an investor?
The trust is delivering a better ROI than its underlying investments
How might an investment trust manager combat a wide discount?
Buying back shares to reduce supply
True or false: an investment trust may be actively involved in the management of companies in which it invests
False
Does the FCA require investment trusts to seek HMRC approval?
Yes, under the Income & Corporation Taxes Act 1988, but they may operate without approval
How does HMRC approval benefit an investment trust?
It will not pay CGT on sales of shares
What are the requirements for HMRC approval of an investment trust?
- Resident in UK & not “close” (controlled by 5 people)
- Ordinary shares listed on London Stock Exchange
- Does not retain more than 15% gross income
What are the types of capital structure for investment trusts?
- Conventional trusts
- Split capital trusts
What characterises a conventional trust?
Issues one main share class (ordinary shares) which entitles the holder to all income & gains
True or false: conventional trusts are usually set up for an indefinite term
True. Some are over 100 years old
What is a limited life conventional trust?
When the term expires shareholders vote to continue for 3 years at a time
What is the benefit of a limited life conventional trust?
As the winding-up date nears, discount should narrow, as investors might obtain full value of assets
True or false: shareholders may vote to wind up even indefinite conventional trusts at any time
True, as with all public limited companies
What characterises a split capital investment trust?
2 - 4 share classes entitled to different returns, with different priority on winding-up
What does it mean if a split capital investment trust offers units?
Packages of all its share classes, equivalent to an ordinary share in a conventional trust
Do split capital investment trusts have an indefinite lifespan?
No. Their initial lifespan is typically 5 - 10 years
What does redemption yield measure?
Capital & income return on a particular share until wind-up
What does it mean if a share has a redemption yield of 7%?
If you buy it now and hold it until wind-up, it will grow in value by 7% per year
What is a hurdle rate?
The rate investments must grow per year for the fund to repay share classes at wind-up
What is a wipe-out rate?
The rate investments must shrink per year for the fund to repay no capital at wind-up
What does a hurdle rate of -2% mean?
The fund has surplus assets & can afford to shrink by 2% per year until wind-up
What is asset cover?
An investment trust’s ability to meet its liability to share classes with pre-determined redemption price
How is asset cover expressed?
Decimal fraction or percentage (e.g. 0.5 or 50%)
What typically happens when a split capital investment trust reaches its redemption date?
Instead of winding up, managers offer investors roll-over investment vehicle with no CGT, or cash alternative
What are zeros?
Zero dividend preferential shares in a split capital investment trust
What’s one reason to buy zeros?
You’re not already using your CGT exemption
What are three types of income shares in a split capital investment trust?
- Traditional (redemption value = initial value)
- “Annuity-style” (nominal redemption value)
- Ordinary (no redemption value, surplus capital only)
In a split capital investment trust, what are capital shares entitled to?
Surplus capital only
What are three main types of shares in a split capital investment trust?
- Zeros
- Income
- Capital
What is a warrant?
Right to buy shares at set “exercise price,” on set date/within set period
Are warrants high or low risk?
High
True or false: warrants can be traded on the London Stock Exchange until their final exercise date
True
How do investment trusts typically use warrants?
As “sweeteners” for investors (buy 5 shares, get 1 warrant free)
Why might an investment trust repurchase its own warrants?
To prevent NAV dilution
What are the two “rates” for an investment trust?
Hurdle rate and wipe-out rate
What is a share buyback?
An investment trust buying back its own shares, typically to narrow the discount
What must an investment trust do before a share buyback?
Get shareholders’ permission
Are investment trusts allowed to gear?
Yes
How is financial gearing expressed?
(total gross assets / net assets) x 100
A result of 120 means the fund is 20% geared i.e. 20% of the assets are borrowed
Besides optional financial gearing, split capital investment trusts inherently involve…
Structural gearing
What is structural gearing?
Low priority share classes = higher risk
What is a COBS rule on gearing?
Advisors must provide enhanced risk warning to clients if they recommend significantly geared trusts
What could typically be considered “significant” financial gearing?
30% +
What are typical AMCs for older / general investment trusts?
Low: typically under 0.5%
What are typical AMCs for newer / specialist investment trusts?
High: typically 0.5% - 2% or more
What kind of document must UCITS funds provide to investors?
Key information document (KID)
What does TER stand for?
Total expenses ratio
What is the main difference between AMC and TER?
TER includes any performance fees
What are typical charges for a savings & investment scheme?
- Initial charge (often 0.2% - 1%)
- Stamp duty/SDRT (0.5%)
What is an advice note?
Sent by savings & investment schemes to investors in place of a certificate, if their shares are held in nominee account to keep costs down
What is franked income?
Tax-free dividends paid by one UK company to another
What tax do investment trusts pay?
Corporation tax on interest income, but offsetting expenses means they often pay little or no tax
True or false: CGT is only chargeable if TOTAL gains, AFTER deduction of losses, exceeds the exempt amount
True
Compared to OEICs/unit trusts, investment trusts typically…
- Have lower initial & annual charges
- Come with greater risk/reward
Why do unit trusts have greater risk/reward than OEICs/unit trusts?
- As there are limited shares, their price will rise/fall more dramatically
- Investment trusts are allowed to gear
What is the basic rate income tax band?*
£12,571 - £50,270
What is the higher rate income tax band?*
£50,271 - £125,140
What is the additional rate tax band?*
£125,141 +
How much is income tax?
- Basic 20%
- Higher 40%
- Additional 45%
What is the income tax personal allowance?*
Up to £12,570
How much is regular CGT?
- 10% for basic rate taxpayers
- 20% for higher & additional rate taxpayers
