Case Study 1 Exam Questions Flashcards

Question

Explain to Daniel and Sophia the three different types of PMI plans available.

Answer 1

Basic  Low cost but no extra benefits and limits on costs of treatment in year  May restrict choice of hospital  Premium reduced if insured pays first part of each claim  Cover restricted to accommodation, drugs and doctor’s fees  Excludes / restricts outpatient treatment, home nursing or private ambulance  May be discount for healthy lifestyles / discount gym membership  May suit those with small budget or those willing/able to pay proportion of costs to get cheaper cover Standard  More items covered, longer claim periods, higher limits  Wider choice of hospitals  May include outpatient treatment and psychiatric cover  Consultant fees, diagnostics tests and physiotherapy included up to limit  May suit those with larger budget, wanting wider cover than basic plan but unable to afford comprehensive Comprehensive  Most expensive but widest cover, longer claim periods, higher limits and widest choice of hospitals  Home nursing, private ambulance, parent staying with child, alternative medicine, dental treatment, overseas travel, cash payment if stay in NHS hospital all likely to be included

Answer 2

 They have significant assets so will be self-funders  Life expectancy  The type of care they would like to receive (at home / in a care home)  Estimated cost of long-term care  Care cost inflation  Budget  Eligibility for state benefits in the future (attendance allowance)  Whether they’d consider equity release  Use of a deferred annuity  Willingness to use existing assets to fund care

Answer 3

 Lifetime cash flow modelling  To determine the amount required  If affordability allows  Daniel and Sophia to consider making further regular pension contributions  Consider using carry forward to move funds out of cash  To benefit from tax relief of 20%/40% on their contributions  Maximising the potential for fund growth  And place further funds in IHT free wrapper  Daniel and Sophia to determine how they would like to take their pension benefits  Then ensure fund choices are in line with this, as well as their ATR  Review workplace pension fund performance  To ensure ongoing suitability  Draw income from other investments initially  So remaining pension funds can stay within pension environment  To benefit from further tax free growth  And to retain IHT benefits  Ensure completion of nomination forms for any pensions (and DIS)  This will ensure that there is no delay in the funds being paid out on death  And that they go to the intended beneficiary Establish LPAs (if not done already)  To ensure decisions can be made for them in the event that they are unable to do so themselves

Answer 4

 Changes in personal / financial circumstances / objectives/ATR  Impact of first death  Monitor performance / identify underperforming funds  Rebalance / change funds  Contributions stop at 75  Costs / charges / cheaper products  Non-earner threshold  Economic / legislative / tax changes

Answer 5

 Estimated equity released (is £200,000 accurate?)  Costs involved in sale/purchase (solicitors, legal fees, stamp duty)  Likelihood of finding a suitably located property?  At a price they are happy with / at the right time?  Likelihood of being able to sell their property?  At a price they are happy with / at the right time?  Prepared to rent if unable to find property at time of sale?  Additional costs involved (rent, storage, removals)  Or take out a bridging loan?  Additional costs involved (secured loan, higher interest rates and fees than normal mortgage)  Risk of a crash in the property market  Time / admin / stress that will be required / involved  What happens if daughter moves in the future?

Answer 6

Benefits  House may be too large for their current needs  Bigger homes are more expensive to maintain  Energy costs and council tax bills are higher  Therefore cost savings can be made by living in a smaller property  Do not leave the property market entirely  Has a physical asset that will hopefully increase in value to pass on to their daughter and grandchildren.  Should retain benefit of RNRB through downsizing addition  Creates a lump sum that can be invested for tax efficiency Downsides  May struggle to adapt to living in a smaller property  Size of savings on maintenance and bills may not be as large as anticipated  Impact of savings minimised by reduction in income due to being retired  Emotional attachment to their property, may be reluctant to sell it.  May feel that they will be depriving their daughter of an inheritance.  Expensive: estate agent fees, stamp duty land tax, legal fees, removal fees, decorating costs.  Easier to achieve the optimum results from trading down in a more buoyant market  Capital released subject to investment risk  May not grow as much as would’ve done had remained in property

Answer 7

 Risk of capital loss  Market timing risk  Loss of liquidity  No option for pound-cost-averaging  Cannot use ISA allowance  Could generate taxable gains for Daniel and Sophia  Remains in estate for life / up to 7 years (depending on investment)

Answer 8

The full RNRB may not be able available if the couple downsize prior to their death. But the estate may be able to claim a downsizing addition to make up for the amount of RNRB which has been lost providing downsizing takes place after 7 July 2015 (which it will) and the former home would have qualified for the RNRB had it been held until death. The new residence must pass to their daughter or grandchildren for the downsizing addition to apply. If only part of the home is left to the daughter/grandchildren, then the available RNRB will be calculated on the value of that part.

Answer 9

 The precise breakdown of asset allocation (cash, fixed interest, property, equities) for each fund?  The level of diversification / geographical split within the asset allocation?  Liquidity of the portfolio?  Fund performance?  Whether Daniel and Sophia’s stated attitudes to risk vary in terms of their various objectives?  The extent to which Daniel and Sophia’s investments match their stated attitudes to risk?  Fund choice (or lack of)?  Fund charges/exit penalties?  Held on platform/directly held?  Capacity for loss for Daniel and Sophia?  Objective/income/growth/timescale?  Use of personal savings allowance / dividend allowance?  Use of CGT annual exemption amount?  Does either of the couple have any CGT losses to carry forward?  Willingness to make changes to portfolio to match stated ATR / improve performance / meet objectives?  Willingness to use tax-free products?  Willingness to transfer ownership of investments to maximise use of allowances?

Answer 10

 The couple have not yet used their ISA allowances for the current tax year  Assuming affordability allows, they should keep topping up their ISAs  They could fund this from their excess cash holdings  Providing accessible tax-free income in retirement  The deposit savings account may enable Sophia to use her £500 personal savings allowance  Thereafter, interest is taxed at 40% as a higher-rate taxpayer The deposit savings account may enable Daniel to use his £1,000 personal savings allowance  Thereafter, interest is taxed at 20% for a basic rate taxpayer  To minimise the amount of tax payable at the higher rate, the couple could open two single accounts, with Sophia’s holding just enough to use her PSA, and the rest in Daniel’s  Any gift from Sophia to Daniel must be outright and unconditional to be effective  Neither Daniel nor Sophia have investments that enable them to use their dividend allowances (£1,000 dividend allowance in 2023/24, £500 in 2024/25)  Nor their CGT annual exempt amount (£6,000 in 2023/24, £3,000 in 2024/25)  They may therefore wish to consider investing some of the £200,000 into a collective investment scheme, such as a UT or OEIC for tax efficiency  The collective could then be used to Bed and ISA in future tax years  To minimise CGT liability  And maximise funds held in ISA environment  As they are married, the surviving spouse would benefit from the Additional Permitted Subscription on first death  Keeping the funds of the 1st to die within the ISA environment  Providing tax free income and gains over time  Daniel is a medium risk investor  His UK Equity ISA may be in line with this  However, his pension is also invested in a UK Growth fund suggesting little in the way of diversification outside the UK  Sophia is also a medium risk investor  Her S&S UK Gilt ISA may be too cautious for her  And her pension is also invested in UK fixed interest assets suggesting little in the way of diversification in terms of asset class or location  S&S ISA holdings for Daniel appear to exceed the FSCS limit of £85,000  Some of his capital is therefore at risk in the event of default  The couple have £100,000 in premium bonds plus £110,000 in other cash accounts (£210,000 total on deposit)  Which seems a lot given their ATRs  And lacks protection from inflation  The couple should keep their investments under review to check performance, alignment with ATR and confirm the likely future adequacy

Answer 11

Stocks and Shares ISA – UK Equity Income (Daniel) Pros  Adds diversification to his overall portfolio  Potential for growth / inflation protection  Actively managed  May be in line with ATR  May be in line with need for sustainable income in retirement  No currency risk  No political/regulatory risk  APS applies as married  No restrictions on access  Should be able to switch easily  With no tax implications as in ISA wrapper  Income and growth free from tax  Using ISA funds rather than pension reduces estate for IHT Cons  Single geographic location – lacks diversification  Single asset class – lacks diversification  Holding within estate for IHT purposes  Holding exceeds FSCS limit Stocks and Shares ISA – UK Gilt (Sophia) Pros  Actively managed  Adds diversification to her overall portfolio  Spreads risk within the sector  No currency risk  No political/regulatory risk  May be in line with need for income in two years’ time  Should be able to switch easily  With no tax implications as in ISA wrapper  Income and gains tax-free as in ISA wrapper  No restrictions on access  Additional permitted subscription available as married  So ISA benefits are retained after 1st death  Using ISA funds rather than pension reduces estate for IHT  Holding within FSCS limit Cons  Single asset class – lacks diversification  No geographic spread for diversification  May be too cautious for ATR  May not require the income at present  Income payments not guaranteed  Income payments may erode capital  Limited growth / protection from inflation  Charges may erode value of fund  Will be included in estate for IHT purposes

Answer 12

 Letter of authority / obtain details  Confirm date of purchase  Confirm base costs / further investments / withdrawals / switches  Identify any reinvested income  Calculate gain  Assess asset allocation  Identify suitable benchmark  Compare against benchmark  Review charges  Compare to risk-free return  Review risk rating on fund (volatility)  Assess funds against ATR and capacity for loss

Answer 13

 Amount of original investment  Date of original investment  Any other capital sums invested  Details of any previous encashments  Performance  Charges  Asset allocation  Suitability for Daniel and Sophia  Use of CGT annual exempt amount  Any CGT losses to carry forward  Willingness to gift / use trusts for tax efficiency

Answer 14

 Asset allocation  Do they need the income?  Simple admin  Charges? Performance?  Suitability of fund?  How to fund current year’s allowance?  FSCS issue for Daniel and potentially Sophia in future

Answer 15

 The holdings are within the FSCS protection limit  So fully protected in the event of the provider failing  Interest may not be competitive and may be fairly low  Meaning there is limited opportunity for growth  Meaning there is little protection from inflation  Meaning the real value of the cash will start to fall  We do not know whether the interest rate is fixed or variable, nor whether it is competitive  Their ATR is medium  Such a large cash holding is not in line with this

Answer 16

 Treasury backed guarantee  So fully protected in the event of the provider failing  Prizes are tax free  So investment is tax efficient  Prizes are not guaranteed  Meaning there is limited opportunity for growth  Meaning there is little protection from inflation  Meaning the real value of the holding will start to fall  They do not appear to need access to such a large cash sum at present  Both ATRs are medium  Such a large cash holding is not in line with this

Answer 17

 Objectives  Diversification  Timescale  Emergency fund  Ethical concerns / ESG  ATR  Performance and charges  Willingness to use trusts  Use of tax wrappers and allowances  What they want to happen on 1st death  Ongoing reviews

Answer 18

 To use ISA allowance in future tax years  So it is not wasted (use it or lose it)  Potential for tax-free growth / hedge against inflation  If require immediate income, choose high-yielding fund  Additional tax-free income in retirement  Provides greater diversification  Benefit from fund manager expertise  Asset and geographic diversification  (Cash) Current cash is losing real value  (Cash) Does not match their ATR, but can chose a fund that would  Matches capacity for loss as have other assets  Benefit from pound cost averaging

Answer 19

 On death, ISA becomes deceased’s ‘continuing ISA’  Cannot add further funds  Tax free until earlier of estate being administered, ISA closed or 3 years and one day from death  The surviving partner can invest the higher of the value of the continuing ISA on death or on the date when the ISA wrapped investments are passed on to them as an APS  This protects the ISA wrapper  And is in addition to the surviving partner’s own ISA allowance  The surviving partner must register the APS with a provider  They can transfer the holdings ‘in specie’  Or they can sell holdings and transfer cash to ISA up to value of APS  APS can be used the later of up to 3 years from date of death  Or up to 180 days after estate is wound up

Answer 20

 They have excess cash holdings.  Tax-deferred income available of up to 5% per annum of original capital  Cumulative withdrawals. (so can wait until retirement)  Equivalent of Basic Rate Tax deducted within Bond/top slicing/no tax due until chargeable event occurs.  Tax-efficient income for Sophia as she is Higher Rate taxpayer.  Can assign to Daniel as he is a Basic Rate taxpayer/no further tax liability for Daniel.  Wide choice of investments/diversification/fund switches.  Growth potential/inflation protection.  Matches attitude to risk/cash does not match attitude to risk.  Jointly-held so Bond continues on first death/no tax on first death.  Can assign segments/can set up in Trust.  Not considered in long-term care assessments.

Answer 21

 Take 5% tax deferred withdrawals  Of original investment amount  These are cumulative  Daniel is a basic rate tax payer  Providing encashments do not push him into high rates of tax  There will be no income tax to pay  Daniel can use top slicing relief  Daniel can adjust income to meet his needs  Can encash entire segments / policies if needed  Depending on the size of the gain he may be able to encash the whole bond without further liability to tax if the top sliced gain falls within his basic rate tax band)  Could use loan trust so growth is outside of Daniel’s estate  Or discounted gift trust  Bond usually exempt from long term care assessment

Answer 22

 Can buy with tax-free PCLS / deposit funds  Tax is less than if had purchased lifetime annuity which is taxable in full (rather than part tax-free, part taxable as savings income)  Interest element may be slightly more than can be achieved on deposit  Starting rate and/or personal savings allowance can be used to offset the tax, then remainder taxed at 20%/40%  Provides a guaranteed income  Giving the couple security of income  Can be indexed  To keep pace with inflation  Though this will reduce the amount paid initially (and generally need to survive 20 years for it to be worthwhile)  Meaning less income  Funds outside estate for IHT purposes (unless choose capital protection)  Reducing any potential IHT liability  However, may not match their medium ATR  Interest rates are relatively high meaning the annuity itself should provide very a reasonable amount of additional income  Inflexible as once set up cannot change

Answer 23

 Split into capital and interest element  Capital content return of capital and is fixed at outset  Based on purchase price  Calculated by dividing the purchase price by number of years annuitant expected to live at outset  Only interest element is taxable as savings income, usually deducted at source  Interest element paid net of 20% basic rate tax  Personal allowance, starting rate for savings income, personal savings allowance can be used against the interest element, thereafter basic rate liability met at source, higher rate owe additional 20%, additional rate a further 25%  Fill in form R89 if not liable to tax / reclaim  No liability to capital gains tax  Not usually included in the estate on death (unless capital protection is chosen and the remaining fund is returned to the estate)  Income from interest element cannot be used to fund gifts under normal expenditure exemption

Answer 24

 Take out investment bond  Ideally JL2D for most tax efficiency  Daniel and Sophia to be trustees along with their daughter  Assign bond to DGT (discretionary or bare)  Calculate discount, meaning value for IHT is less than the amount gifted  Up to 5% income can be taken to boost retirement income  Can defer income to begin with (to provide additional income later)  CLT if discretionary trust, no immediate charge to tax if below NRB  PET if bare trust, no immediate charge to tax  Fall out of estate completely if survive 7 years

Answer 25

 Discount will reflect their good health  Falls out of estate after 7 years  Any growth outside their estate  If use discretionary trust, no immediate charge to tax if kept under NRB, no periodic/exit charges if kept under NRB  Can act as trustee to retain element of control  But, income is fixed from outset  Once cumulative 5% used, no further income came be taken  Irrevocable  Lose access to capital  May incur set up costs

Answer 26

 Establish discretionary trust  Settlors should be trustees  Retain control of capital  Identify beneficiaries (surviving partner, children, grandchildren)  Make capital loan to trustees  Repayable on demand so remains in estate  No immediate charge to IHT (as no IHT transfer has taken place)  Growth immediately outside estate  Can be held in Investment Bond  Can take 5% withdrawals over 20 years  Without immediate charge to tax  Trust may suffer periodic / exit charge if value after deduction of loan exceeds NRB, but this is unlikely

Answer 27

 Both to use their ISA allowances each year  Maximising the funds held in tax-free environment  That can then be used to supplement retirement income when needed  Easy access which may suit if their income and expenditure pattern changes  Consider moving excess cash to ISAs/UT/OEIC/onshore bond  To reduce exposure to inflation risk and increase growth potential of both capital and income  Both of which will be tax free (ISA) / will enable them to use tax allowances (UT/OEIC/onshore bond)  Consider drip feeding lump sums over the years into ISAs from any new collective (Bed and ISAing)  Future income and gains tax free  Maximising performance  Uses up CGT annual exempt amounts  Saving further tax  Transfer a larger proportion of the deposit account to Daniel  To maximise use of allowances / reduce tax paid at the higher rate  Consider moving some funds out of cash/fixed interest and investing in purchased life annuity / onshore bond  To provide tax-efficient income in retirement (both)  To provide a secure income in retirement (PLA only)  Choose escalation option (PLA only)  To protect against inflation (both)  To protect against future IHT (PLA)  To protect against future IHT (DGT/loan trust)

Answer 28

 IHT liability  Investment performance  Suitability of fund choice  Adequacy of income yield  Asset allocation given their risk profile / rebalance?  Asset allocation given investment performance (rebalance?)  Fund charges  Changes in economy / market conditions  Changes in tax/legislation

Answer 29

*If the house is transferred to the survivor, he/she would inherit their spouse’s RNRB of £175,000. *On second death the executors could claim £350,000 RNRB provided the house is left to their daughter(or grand children) *RNRB is restricted to the value of the house so if less than £350K Down sizin grelief can be claimed. *The amount of relief is the value at date of death/£350,000 (the maximum RNRBincluding transfer) *The percentage is deducted from 100% and applied to £350,000 *This is the “Lost RNRB” *This would be in addition to the normal NRB. *It is available to pass assets other than the houseto their daughter without being subject to IHT

Answer 30

They would purchase a Joint Life second death Insurance Bond. *This would be underwritten and split into two parts.*The majority (probably in this case due to their health and age) would be outside their estate. *They could withdraw 5% of the original SA as an income. No tax would immediately be paid on this. *Meets their need for sustainable income. *The remainder would be placed into a discretionary trust. *Their daughter and grandchildren could be potential beneficiaries. *This would be a CLT but no immediate tax as below NRB*Outside estate after 7 years. *And unlikelyto incur exit or periodic charges. The downside is: *They lose access to the capital *Relies on investment growth to fund the 5% withdrawal *They should be spending the incomeotherwise it increases theirestate