Generic Questions/Analysis Flashcards
State the main factors that would typically influence a client’s attitude towards investment risk.
(10 marks)
- Age of investor
- Timescale
- State of health
- Objectives of investment/income or growth
- Income/expenditure/disposable income/affordability
- Assets/investments/level of wealth
- Liabilities
- Experience/understanding of investments
- Change in personal circumstances, E.g. job change, children, etc.
- Amount of investment available
State the main factors that would typically influence a client’s attitude towards investment risk.
(10 marks)
- Age of investor
- Timescale
- State of health
- Objectives of investment/income or growth
- Income/expenditure/disposable income/affordability
- Assets/investments/level of wealth
- Liabilities
- Experience/understanding of investments
- Change in personal circumstances, E.g. job change, children, etc.
- Amount of investment available
What are the potential benefits of receiving and acting upon advice from a qualified financial adviser?
(10 marks)
- Financial problems, goals and priorities will be identified.
- Benefit from adviser’s research.
- Help with budgeting/cash flow.
- Assessment of suitability of existing arrangements.
- Tax planning, use of tax wrappers or tax efficiency.
- Assessment of attitude to risk and capacity for loss.
- Receive recommendations/create a financial plan.
- Dealing with professional/knowledge/clarity of explanation.
- Ongoing service/reviews.
- Consumer protection/regulated advice.
List 4 benefits and 4 drawbacks of paying adviser fees for initial/ongoing service on an hourly cost basis.
(8 marks)
BENEFITS:
- Familiar or same as other professions.
- Easy to understand and compare.
- Based on actual work undertaken, amount invested is irrelevant - cheaper for large sums for example.
- Fee cap can apply.
DRAWBACKS:
- Can be seen as inefficient or adviser ‘running up the clock’.
- May put clients off making contact or asking for advice.
- Paid from personal funds.
- Unknown total cost.
List 4 benefits and 4 drawbacks of paying adviser fees for initial/ongoing service as a fund-based fee.
(8 marks)
BENEFITS:
- Can negotiate lower fees for larger investments.
- Payment can be taken from provider as opposed to using personal funds.
- Incentive for adviser to grow investment.
- Attractive for lower amounts/lower fees for lower amounts.
DRAWBACKS:
- Difficult to predict each year (fund value will vary).
- May not be in line with service provided, not reflecting time spent or larger portfolios not generally harder to administer.
- Extra charges may apply for other services.
- Reduces potential investment growth.
List 4 benefits and 4 drawbacks of paying adviser fees for initial/ongoing service on a fixed fee basis.
(8 marks)
BENEFITS:
- Familiar or same as other professions.
- Known cost.
- Easy to understand and compare.
- Amount invested is irrelevant/cheaper for large sums.
DRAWBACKS:
- Is fee justifiable?
- Paid from personal funds.
- May put clients off making contact or asking for advice.
- Exactly what is included?
Explain the benefits of a current cash flow statement when devising a financial plan.
(5 marks)
- Shows difference between expenditure and income.
- Highlights areas for cost reduction.
- Identifies opportunities to fill gaps in planning/establish planning budget.
- Can be used to analyse future cash flows/retirement cash flows and contingent cash flows/loss of income clients’ ill health/death.
- Enables the client to understand the long term impact of large expenditure.
Outline the key information that should be taken into account by a financial adviser when building a lifetime cash flow model to help clients plan their future income needs.
(9 marks)
- Current income needs/future income needs.
- Planned capital expenditure.
- Current assets/current income/level of guaranteed income.
- Growth rate assumptions/interest rate assumptions/charges.
- Inflation assumptions.
- Attitude to risk/capacity for loss.
- Longevity/health.
- Market corrections/estimates of market falls/stress test.
- Impact of death of either client.
Explain the limitations of cashflow modelling and why clients should not rely on this as a sole method of future income needs.
(9 marks)
- Provides estimates only/snapshot of current situation.
- Inflation assumptions can be incorrect.
- Growth assumptions may not be achieved/investment returns not guaranteed.
- Personal circumstances may change/ill health/loss of income/objectives can change.
- Tax rules may change.
- Attitude to risk may change/capacity for loss may change.
- Charges/fees can change.
- Regular reviews required/needs to be updated regularly.
- Input errors/misunderstanding of information by clients or adviser.
What is meant by the term ‘risk profile’?
(3 marks)
- It is the level of fluctuation/volatility that clients are prepared to accept in their investment/pension portfolio.
- Holding investments that are higher risk than their risk profile may result in unacceptable losses in poor market conditions.
- If investments are lower risk than they are prepared to accept they may miss out on higher returns.
State the main factors that might influence a client’s attitude towards investment risk?
(10 marks)
- Timescale
- Income/expenditure/disposable income/affordability.
- Assets/investments/level of wealth.
- Liabilities.
- Amount of investment available.
- Age of investor.
- Experience/understanding of market/investments.
- State of health.
- Objectives of investment, e.g. income/growth.
- Change in personal circumstances/marriage/death/job change.
Outline the process that an adviser should follow to determine a client’s ATR by the use of a risk profiling tool.
(6 marks)
- Clients each complete a risk profile questionnaire.
- This focuses on timescales/priorities/responses to circumstances.
- Generates a risk score.
- Score provides further discussion with client/used to produce asset allocation.
- Ascertain capacity for loss.
- Adviser and client(s) agree a suitable risk profile.
Why should an adviser not rely solely on a computer-based risk profiling tool to confirm a client’s ATR?
(6 marks)
- Different results for each client would require further discussion.
- Different programs produce different results.
- Clients may not be able to relate to the content of the questionnaire.
- Potential for clients to misinterpret/misunderstand question.
- Will be unsuitable if clients have a zero capacity for loss.
- Different risk may be in evidence for different objectives/timescales.
Identify the factors relating to a client’s circumstances that would typically influence their attitude to investment risk.
(12 marks)
- Age.
- Income.
- Timescale.
- Health.
- Any disposable income/existing assets/adequate emergency fund/amount available to invest.
- Any inheritances.
- Any protection policies in place.
- Any state pension entitlement.
- Investment experience/knowledge.
- Objectives/priorities.
- Economic environment/market conditions.
- Tolerance for loss/capacity for loss.
Explain the importance of reviewing client attitudes to risk on a regular basis?
(7 marks)
- ATR may differ for different objectives/retirement/clearing mortgage.
- Changes based on investment experience/knowledge.
- Changes based on personal circumstances/health.
- Changes based on income/recent inheritance.
- Changes as they get older/changes over time.
- Fund performance/market performance/ensure investments match ATR.
- The risk they can afford to take/capacity for loss.
Why is diversification important?
(4 marks)
- Diversification can reduce risk in a portfolio by holding a different range of assets.
- Each different investment can perform well in certain market conditions.
- The downside risk of one investment can be offset by the upside potential of another investment.
- Diversification can reduce stock specific risk (non-systematic risk) but not market risk (systematic risk).
State the limitations of using an asset allocation model.
(6 marks)
- Doesn’t recommend an appropriate tax wrapper/take account of client’s tax position.
- Charges are not considered.
- Questions asked aren’t always relevant.
- Different models produce different results.
- Underlying assumptions subject to change/based on historic data.
- Needs to be reviewed.
Explain how a salary sacrifice arrangement may work.
(3 marks)
- Salary is reduced by the amount of pension contribution.
- Employer pays this into the pension scheme as an employer contribution.
- Employer might also add the NICs saved.
Explain how a salary sacrifice arrangement may work.
(3 marks)
- Salary is reduced by the amount of pension contribution.
- Employer pays this into the pension scheme as an employer contribution.
- Employer might also add the NICs saved.
List the benefits of an employer offering salary sacrifice.
(4 marks)
- Reduces employee’s and employer’s NICs.
- Increases pension benefit without affecting net pay.
- The employer may invest their NIC saving into employee’s pension.
- Can help some taxpayers with personal allowance reduction saving income tax.
List the drawbacks to an employer offering salary sacrifice.
(7 marks)
- Salary is reduced which may affect borrowing capacity (e.g. mortgage).
- Maximum benefits on income protection insurance may be reduced.
- The arrangement cannot be binding on the employer.
- May impact on future salary increase.
- May reduce level of employee benefits such as death in service benefits.
- May impact on entitlement to state benefits.
- Extra paperwork/administration.
What are the benefits of using flexi-access drawdown rather than annuities?
(6 marks)
- Potential growth/stay invested.
- Flexible income.
- Tax efficient income.
- IHT free/outside of estate.
- Annuity rates may improve/no mortality drag.
- Choice of successor/flexible death benefits.
What are the drawbacks of using flexi-access drawdown rather than annuities?
(6 marks)
- Increased fees/charges.
- Investment risk/loss of mortality gain.
- May fritter funds/deplete funds before death.
- Need advice/complex/reviews.
- Income not guaranteed.
- Triggers MPAA.
What is the ‘safe withdrawal rate’?
(4 marks)
- A strategy to establish how much can be withdrawn to ensure the fund doesn’t run out.
- Rule of thumb to use 30-year time period and a safe withdrawal rate of 4%.
- These figures are sensitive to asset allocation.
- Rate should be adapted to ATR.
What is stress testing?
(3 marks)
- How a portfolio might perform in a downturn.
- Could client cope if capital ran out completely.
- Could they manage on a lower income during a downturn/ensure capital is not too depleted.
Explain why it might be more suitable to make monthly contributions into a pension instead of lump sums.
(5 marks)
- Pound cost averaging.
- Benefit from investment volatility.
- Can stop and start contributions/flexibility/convenience.
- Assists with budgeting.
- Reduces risk of poor investment timing.
Describe the process an adviser could use to ensure there are sufficient funds under an existing pension plan to provide the required level of target benefits.
(7 marks)
- Establish the income required, allowing for inflation.
- Calculate the fund required based on assumed/agreed annuity rate.
- Allow for PCLS requirement.
- Calculate existing benefits at retirement age using assumed or agreed growth rate.
- Include ongoing funding.
- Calculate the shortfall and the increased contributions required.
- Ongoing reviews needed.
What are the benefits for a client of holding investments on a platform?
(16 marks)
- Easy access online at all times.
- Total wealth can be seen at the press of a button.
- Wide range of providers/asset classes/funds/investments/tax wrappers.
- Performance is easy to obtain.
- Full details of investments - online switching.
- Consolidated tax statements are automatic.
- Time and effort efficient for the client/their accountant for tax returns.
- Can promote good relationship with the adviser.
- Management of family assets - discounts of their charges.
- Unbundled charging/transparent charges.
- Funds can usually be bought without an initial charge.
- Large portfolios can attract volume discounts (e.g. large fund discount).
- Calculation tools.
- Reduced paperwork.
- Reports and valuations can be stored online.
- Automatic rebalancing.
What are the main features and tax advantages of investing in a Venture Capital Trust (VCT)?
(7 marks)
- Functions as an investment trust but at least 80% of its value must be unlisted shares (includes AIM listed shares).
- The VCT must be listed on the London Stock Exchange.
- Tax relief at 30% on investment of up to £200,000 per tax year.
- This is a tax reducer.
- Tax relief reclaimed if investment not held for 5 years.
- No income tax liability on dividends received.
- No CGT liability on gains - no minimum holding period.
What are the main features and tax advantages of investing in an Enterprise Investment Scheme (EIS)?
(6 marks)
- Investment into a single company.
- Tax relief at 30% on investment of up to £1,000,000 per tax year (£2,000,000 if a knowledge intense company).
- This is a tax reducer.
- Tax relief reclaimed if shares sold within 3 years.
- No liability to CGT.
- Dividends are taxable.
What is a multi-asset managed fund?
(1 mark)
A fund that invests in other funds (fund of funds) or in funds made up of shares, bonds, and cash (a mixed investment range).
What are the requirements for making a valid Will?
(7 marks)
- The testator (clients) must be of sound mind.
- There must be a clear intention to dispose of property.
- They must be at least 18.
- It must be in writing (typed or handwritten).
- It must be signed by them as testators.
- It must be signed by a minimum of two witnesses - who are not executors or beneficiaries.
- The witnesses must be present when the testators sign.
In the event of either of a couple’s death, describe the process of how their estate will be settled if they do not make a Will and identify the potential problems that could arise.
(6 process marks and 4 potential problem marks)
PROCESS:
- Administrators will need to be appointed.
- They apply for letters of administration.
- Debts will need to be paid.
- The estate is then valued.
- The IHT liability is calculated and must be paid within 6 months.
- The IHT must be paid before the estate is distributed.
POTENTIAL PROBLEMS:
- Not having a Will causes delays.
- The estate does not pass in a way they might want.
- They cannot state their wishes re funeral arrangements/guardians for children etc.
- Court decides custody of children if no guardians.
What are the duties of Trustees?
(9 marks)
- To hold trust property and to administer it for the benefit of the beneficiaries.
- Hold the title documents to any trust property.
- Everything they do must be for the benefit of the beneficiaries.
- Invest any cash wisely or pay it out to a beneficiary immediately.
- Take account of the standard investment criteria.
- Monitor investments.
- Avoid conflicts of interest.
- Use utmost diligence.
- Keep proper accounts.
What are the conditions for a deed of variation to be valid?
(13 marks)
- A deed of variation must be drawn up within 2 years of death to be IHT effective.
- Only those giving up benefit need to sign the deed.
- All beneficiaries must agree.
- All beneficiaries must be at least 18.
- All beneficiaries must be of sound mind.
- The deed must refer specifically to the Will.
- The deed must state that is it to be effective for inheritance tax purposes.
- The deed must state who the bequest is being re-directed to.
- Must be in writing/legal document.
- Deed states what is being varied in Will/intestacy, the ‘what’.
- It will be treated as taking place on the donor’s death.
- The deed should not be for consideration of money or money’s worth.
- The deed should contain a statement that the variation is to have effect for either CGT, IHT, or both.
If a client earns over £60,000 and are entitled to Child Benefit, what will be the tax implications if they receive it?
(3 marks)
- As they earn over £50,000 they will be liable for the High Income Child Benefit charge.
- As their income exceeds £60,000, they will have an additional income tax charge.
- This will be equal to the Child Benefit received.
State the process that a financial adviser should follow when providing appropriate financial advice.
(8 marks)
Establish/define relationship/confirm scope of service/fees
Fact-find/obtain goals and objectives/confirm capacity for loss/ATR
Analyse current situation/existing investments/identify shortfalls
Develop financial plan/research
Present financial plan/recommendation/discuss
Provide suitability report/information documents
Implement plan/obtain client agreement
Monitor/review.
Explain the process a financial adviser should follow to establish a client’s aims and objectives.
(9 marks)
Recognise needs and objectives
Help clients understand general aims and specific objectives
Ask open and closed questions/obtain hard and soft facts
Ensure objectives are SMART
Identify which are short-term/long-term/emphasis importance of long-term needs
Establish views on family/dependents
Establish timescales
Quantify and qualify objectives
Prioritisation/different views/not feasible to achieve all goals
Explain how lifetime cash flow modelling is used.
(3 marks)
Lifetime cash flow projections are used to forecast clients’ income and expenditure profiles over the long term
They provide a year-by-year summary of cash paid to and paid out by the client, showing the years where there will be a surplus or a deficit.
The main variables are:
o The level of income and capital inputs
o The level of expenditure
o Assumptions made about future increases in income, capital values, spending and
inflation
o Projections can then be amended to include the effect of recommendations
Explain the importance of reviewing attitudes to risk on a regular basis.
(7 marks)
ATR differs for different objectives
Changes based on investment experience/knowledge
Changes based on personal circumstances/health
Changes based on income/any recent inheritance
Changes over time
Fund performance/market performance/ensure investments match ATR
Capacity for loss
What does Term Assurance provide?
(2 marks)
Tax-free lump sum on death during term
(Usually includes Terminal Illness benefit)
What does Critical Illness cover provide?
(1 mark)
Tax-free lump sum upon diagnosis of critical illness after survival period of up to 30 days
Types of Term Assurance?
(7 marks)
Level
Increasing
Term 100
Decreasing
Increasable
Renewable
Convertible
Types of CIC?
(2 marks)
Standalone or combined with life assurance
Free children’s cover
Options of Term Assurance?
(2 marks)
Waiver of Premium
Can include CIC
Options of CIC?
(4 marks)
Reviewable (every 5 or 10 years) or guaranteed premiums
Sum assured can be index linked (set % or in line with inflation - no further underwriting)
Waiver of premium
Life cover buy-back
Can Term Assurance be written in Trust?
(1 mark)
Yes
Can CIC be written in Trust?
(1 mark)
Life and earlier CIC policies should use a split benefit trust
What is Level Term Assurance?
(1 mark)
Fixed sum assured throughout term
What is Increasing Term Assurance?
(2 marks)
Sum assured increases throughout term
Either on fixed % or in line with index such as RPI
What is Term 100 Assurance?
(1 mark)
Written to age 100 (can be used as alternative to whole of life)
What is Decreasing Term Assurance?
(5 marks)
Sum assured reduces each year in pre-determined way
Used to protect a capital and interest mortgage
Inter vivos to cover potential IHT liability on recipient of PETs – sum assured reduces in line with effects of taper relief
Family income benefit - sum assured is an amount paid each month/quarter/year from date of death until end of policy term
May be able to commute regular payments for a lump sum
What is Increasable Term Insurance?
(1 mark)
Sum assured can be increased without underwriting
What is Renewable Term Assurance?
(3 marks)
Usually for a 5-year term at outset
At end of term a new 5-year policy can be started without underwriting (premium likely to be higher)
Premium will be based on age at renewal
What is Convertible Term Assurance?
(2 marks)
Policy can be converted into a whole of life or endowment with same or lower sum assured without underwriting
Premium for new policy will be based on age at conversion
What is Income Protection?
(1 mark)
Regular tax-free income when unable to work due to accident/ illness
Deferred periods for Income Protection?
(5 marks)
Deferred period (4, 13, 26, 52 or 104 weeks)
When is Income Protection paid until?
(1 mark)
Paid until return to work, retire, death or policy ends
Income Protection - Rehabilitation Benefit?
(1 mark)
Rehabilitation benefit - proportionately reduced benefit to top up earnings when someone returns to work but on a part time basis
Income Protection - Proportionate Benefit?
(1 mark)
Proportionate benefit - reduced benefit equivalent to reduction in earnings for those who return to work but in a lower paid job
Is there a limit on how many times you can claim under an Income Protection policy?
(1 mark)
No limit on claims
What percentage of your income does Income Protection pay out?
(1 mark)
Benefit limited to 50-65% pre-claim income
Income Protection - 2 types of occupation?
(2 marks)
Own occupation (widest cover) or any occupation
What 2 types of premiums can you have under an Income Protection policy?
(2 marks)
Guaranteed or reviewable premiums
Does Income Protection offer waiver of premium?
(1 mark)
Automatic waiver of premium
What is Personal Accident and Sickness Insurance (PAS)?
(1 mark)
Tax-free income if insured has accident or can’t work due to sickness
What amount does Personal Accident and Sickness Insurance (PAS) pay out?
(1 mark)
Benefit limited to set % of earnings and a monthly max amount
What term does a Personal Accident and Sickness (PAS) policy usually have?
(1 mark)
Usually annual contract but can be for shorter periods – can be cancelled by the insurer
Personal Accident and Sickness (PAS) Insurance - deferred period?
(1 mark)
Shorter deferred period but will only pay benefit for 1 or 2 years
Is a Personal Accident and Sickness (PAS) policy a standalone policy?
(1 mark)
Standalone or bolt on to household, motor or travel insurance
Personal Accident and Sickness (PAS) - Other benefits?
(2 marks)
Refund of medical expenses
Lump sum payments for loss of limb, loss of sight etc.
What is Accident, Sickness and Unemployment Insurance (ASU)?
(1 mark)
Tax-free income if insured has accident or can’t work due to sickness or unemployment
What term does Accident, Sickness and Unemployment Insurance (ASU) usually have?
(1 mark)
Usually annual contract but can be for shorter periods – can be cancelled by the insurer
For how long does an Accident, Sickness and Unemployment (ASU) policy pay out for?
(1 mark)
Max benefit payment period 2 years
Does an Accident, Sickness and Unemployment (ASU) policy have a deferred period?
Yes
Accident, Sickness and Unemployment Insurance (ASU) - Other points?
(3 marks)
Pre-existing medical conditions, excluded
Benefit limited to set % of earnings and a monthly max amount
Possible lump sum payments for loss of limb, loss of sight etc.
What is Mortgage Protection Payment Insurance (MPPI)?
(1 mark)
Amount to cover mortgage if insured has an accident or unable to work due to sickness accident or involuntary unemployment
How long does a Mortgage Protection Payment Insurance policy pay out for?
(1 mark)
Benefit payable for at least 6 months but probably limited to maximum of 1 or 2 years
Mortgage Protection Payment Insurance (MPPI) - deferred period?
(1 mark)
Deferred period – often 30-180 days
Mortgage Protection Payment Insurance (MPPI) - Other points?
(3 marks)
Must cover self- employed
MPPI cannot be sold at the same time as a mortgage
Minimum standards set by ABI & CML
What is Private Medical Insurance?
(1 mark)
Covers costs of private treatment e.g. consultant fees, investigations, treatment, accommodation costs
Private Medical Insurance - Other points?
(7 marks)
Indemnity policy - can only claim back expenses incurred
For acute conditions (not chronic conditions that are incurable)
May need to pay excess or co-payment
Basic plan usually restricted to accommodation, drugs, dressings, and doctor’s fees
Mid-range covers more items, longer claim periods and higher limits
Comprehensive plans have longer claim periods, higher limits, and often wider choice of hospital. Home nursing and private ambulance usually covered. May also include alternative medicine, dental treatment. Policies can cover whole family not just one person
Treated as a benefit in kind if premiums paid by employer.
Explain how a purchased life annuity can provide additional income in retirement.
(11 marks)
Use PCLS or savings to pay a lump sum to an insurance company
This is irrevocable/inflexible
Annuity rate agreed for lifetime/fixed term/underwriting required
Income paid as a mix of return of capital and income
Return of capital is tax free
Income element is taxable as savings income
Can use his personal savings allowance
Tax is deducted at source by insurance company
Escalation is available
Joint life available
Capital guarantee available
VCT - Investment?
Minimum 80% in unquoted companies including AIM
Maximum 15% in one company with a minimum of 10% in ordinary shares
VCT - Dividends?
Exempt from Income Tax from VCT investments of up to £200,000 per tax year
VCT - Income Tax Relief?
30% on first £200,000
VCT - Holding Period?
5 years
VCT - CGT?
None (no holding period)
VCT - Reinvestment Relief?
No
VCT - IHT?
Forms part of estate as normal.
EIS - Investment?
Investment in unquoted trading companies including AIM companies
EIS - Dividends?
Liable to Income Tax
EIS - Income Tax Relief?
30% up to a max of £2m - any amount over £1m must be invested in knowledge intensive companies
EIS - Holding Period?
3 Years
EIS - CGT?
Free - after 3 years
EIS - Reinvestment Relief?
Yes
EIS - IHT?
100% business relief after 2 years.
SEIS - Investment?
Designed to help small start- up unquoted companies raise finance
SEIS - Dividends?
Liable to Income Tax
SEIS - Income Tax Relief?
50% on first £100,000
SEIS - Holding Period?
3 Years
SEIS - CGT?
Free - after 3 years
SEIS - Reinvestment Relief?
Yes - 50% exempt of the re-invested amount
SEIS - IHT?
100% business relief after 2 years.
Outline the process a financial adviser should follow to provide clients with suitable advice on their existing investments.
(9 marks)
Disclose status/fee/client agreement.
Fact-finding/goals/objectives
Attitude to risk/capacity for loss
Analysis of the client’s situation/affordability
Undertake research
Formulate recommendation/develop plan
Make a presentation/recommendation to client
Implement/suitability letter
Annual review/monitor
Outline the factors an adviser should consider and the process they should follow when recommending a fund switch.
(11 marks)
Fact-finding/knowing your client/client agreement
Assess attitude to risk/capacity for loss
Timescale
Charges
Performance
Fund choice available
Asset allocation/diversification
Select fund to match attitude to risk
Present client with documentation
Obtain client permission/implement
Suitability Letter/recommendation letter to client
Outline the process you would follow to enable you to review the performance of existing stocks and shares ISAs.
(12 marks)
Letter of authority/obtain plan details
Confirm date of purchase
Base cost/any further investments/withdrawals/fund switches
Identify reinvested income
Calculate gain/performance history
Assess asset allocation
Identify suitable benchmark
Identify Alpha/compare against benchmark
Review charges
Comparison with risk-free return/risk adjusted return
Review volatility/risk rating of fund
Assess funds against attitude to risk/capacity for loss
Bare Trusts
- PET
- IHT free after 7 years
- No IHT initially as it’s a PET
- Beneficiaries CANNOT be changed.
- When can Beneficiaries benefit? Beneficiaries can demand the trust fund at age 18.
- Income is taxed on the beneficiary using their own rates and personal allowance
- Capital gains are taxed on the beneficiary using their rates and full annual exempt amount
- IHT liability on the settlor if death occurs within 7 years of the PET.
The trust fund forms part of the estate of the beneficiary if they should die.
Discretionary trust
- Chargeable lifetime transfer (CLT)
- IHT free after 7 years
- IHT initially only if transfer is over the NRB and then at 20% if trustees pay and 25% if settlor pays
- Trustees have discretion to change beneficiaries
- The trustees have control over who gets income and who gets capital. The beneficiaries do not have a right to either.
- Trust has a standard rate band of £1,000. Above this, trustees are charged at the rates applicable to an additional rate taxpayer.
- The trust has a CGT exempt amount of 1/2 the normal amount (split between number of trusts settlor set up to a minimum of 1/5 each) CGT rate for trustees is 20%
- IHT liability at outset, if gift is over the NRB. Back in estate if death within 7 years.
Trust fund potentially chargeable every 10 years (periodic charge) and when capital is distributed (exit charge (both no more than 6%)
What are advantages of having valid Wills?
(4 marks)
- Provides clear instructions as to how the estate is to be distributed
- Can choose the people that will be responsible for administering the estate
- Avoids the intestacy rules
- Can make specific provision for the guardianship of children
Describe the process of how an estate would be settled if a client does not have a Will in place.
(6 marks)
Administrators will need to be appointed
They apply for letters of administration
Debts will need to be paid
The estate is then valued
The IHT liability is calculated and must be paid within 6 months
The IHT must be paid before the estate is distributed
Explain the key duties of an executor of a Will.
(7 marks)
Administer deceased’s affairs/obtain most up to date copy of Will
Obtain full details of all assets/liabilities/settle debts
Complete IHT return/pay IHT
Obtain/apply for probate
Distribute estate in accordance with Will/inform beneficiaries of entitlements
Complete Income Tax/CGT return
Prepare estate accounts
Explain why Wills should be reviewed regularly.
(4 marks)
Ensure executors/trustees in place and able to act
Considers change in family circumstances/divorce/can change
beneficiaries/grandchildren/ensure wishes are reflected
Financial position may change
IHT planning/changes in legislation
What are the duties of trustees?
(9 marks)
To hold trust property and to administer it for the benefit of the beneficiaries
Hold the title documents to any trust property
Everything they do must be for the benefit of the beneficiaries
Invest any cash wisely or pay it out to a beneficiary immediately
Take account of the standard investment criteria
Monitor investments
Avoid conflicts of interest
Use utmost diligence
Keep proper accounts
Explain how the use of spousal by-pass trusts could reduce any future IHT liabilities.
(7 marks)
If death occurs with uncrystallised pension funds the fund value often paid to spouse
This could then be included in that spouse’s estate when they die and could increase/create an IHT liability
Death benefit should be paid into a spousal by-pass trust
Spouse can be trustee as well as a potential beneficiary
They could receive income/capital/loans from the trust at trustee’s discretion
As they have no right to benefit the value of trust will not be included in their estate
The maximum IHT saving would be fund value x 40%
Jim and Carol - Financial Aims?
(3 marks)
- ensure that they have an adequate income in retirement
- review the suitability of their investments in advance of their retirement
- consider a range of options in respect of Carol’s inheritance and to review their potential inheritance tax liability
State the additional information that a financial adviser would need in order to recommend a suitable strategy to ensure that Jim and Carol have sufficient income in retirement.
(14 marks)
Income needed in retirement/capital needed
Thoughts on how they wish to take their income/benefits in retirement/flexibility/guaranteed income/increasing/tax-free lump sums
Plans to use other assets at retirement/downsizing
Existing workplace schemes:
o Do they have recent valuations?
o Current transfer values/SRA/any penalties for early retirement
o Are there any guarantees - guaranteed annuity rate?
o Charges/fund details
o Death benefit nominations completed/up to date?
Do they have any other deferred benefits?
What is their investment experience?
Growth rates to be assumed/inflation/projections/performance/charges
Use of tax allowances/likely future tax status
Affordability/budget for further contributions before retirement/willingness to
maximise contributions this tax year
History of contributions/use of carry forward
Current health status
State Pension expected/BR19/State Pension age
Other debts/liabilities
Income generated from other savings
Comment on the suitability of their existing pension funds.
(7 marks)
Carol has her entire workplace pension held in one fund and one asset class
Does not match ATR
Does not offer any asset/fund management diversification
Limited long-term growth
Jim has his entire workplace pension fund invested in one UK and one Global equity fund
Although this more closely aligns to his ATR and offers better potential for growth it does not offer the necessary asset or fund management diversification
Need to manage volatility of funds if they are considering annuity purchase.
List the benefits and drawbacks of using phased drawdown as part of the strategy for Jim and Carol’s retirement income.
(7 benefits and 2 drawbacks)
Benefits:
Can choose how much to crystallise and when/can control amount of Income Tax
payable
25% of the value will be tax free
If just takes PCLS then MPAA not triggered
Uncrystallised funds can continue to grow
Any remaining uncrystallised funds will be available for beneficiaries
Tax free if they die before 75 and paid out within 2 years of death
Can be used to top up income before they receive State Pension
Drawbacks:
Any funds not taken remain subject to investment risk
Reviews may be needed in respect of any uncrystallised funds
List the advantages of Jim and Carol buying an annuity with their workplace pension funds.
(8 marks)
Guaranteed income for life/no investment risk
Can include dependant benefits /annuity protection
If death before age 75 ongoing income paid tax free
Can include unlimited guarantee period
Can include annuity protection
Can include indexation
Simple contract/no on-going
advice/reviews required
Benefit from mortality drag
List the disadvantages of Jim and Carol buying an annuity with their workplace pension funds.
(6 marks)
Cannot benefit if annuity rates improve/locked into the annuity rates at time of crystallisation
Death benefits have to be chosen at outset/cannot be passed through generations
No prospect of investment growth (unless investment linked annuity is used)
Risk of mortality cross subsidy
Escalation can be expensive
Annuity does not match ATR
State the advantages of Jim and Carol using flexi‐access drawdown or UFPLS to take retirement benefits from their workplace scheme rather than using a lifetime annuity.
(7 marks)
No income limit/flexibility of income/income can be varied
Not locking into an annuity/poor annuity rates/can purchase later/rates may improve
Tax‐efficient income
Flexible death benefits; annuity/lump
sum/dependants and nominee’s
FAD/pass on through the generations
Tax free death benefits if die before age 75/flexibility of beneficiary/can
nominate beneficiary
Potential for investment growth
Matches ATR
State the disadvantages of Jim and Carol using flexi‐access drawdown or UFPLS to take retirement benefits from their workplace scheme rather than using a lifetime annuity.
(7 marks)
Complexity/ongoing decisions/need for regular reviews
UFPLS or income from FAD will trigger MPAA/£4,000 annual allowance
Investment risk/fund could be depleted
Income not guaranteed
Annuity rates may fall
Legislation may change
Charges
Recommend and justify actions Jim and Carol could take to ensure they have sufficient, sustainable income in retirement.
Maximise pension contributions before retirement.
(3 marks)
40% tax relief on contributions within higher-rate tax band
Tax free growth
Flexible benefits
Recommend and justify actions Jim and Carol could take to ensure they have sufficient, sustainable income in retirement.
Both Carol and Jim to get State Pension forecasts
(2 marks)
To ensure they know when and what they will receive
Pay Class 3 NICs should there be any gaps in NI record
Recommend and justify actions Jim and Carol could take to ensure they have sufficient, sustainable income in retirement.
Use phased drawdown to take income from their pension funds at retirement
Use safe withdrawal rate
(3 marks)
Do not need PCLS/can take lump sums if required from other assets/more tax efficient
Can control amount of Income Tax
Matches ATR/flexible, tax efficient
income/flexible death benefits – tax free before age 75
Recommend and justify actions Jim and Carol could take to ensure they have sufficient, sustainable income in retirement.
Use other investments for income
Review fund choices
(2 marks)
Pensions are IHT efficient/tax efficient fund
Current funds are not diversified, not income producing, do not match ATR
Recommend and justify actions Jim and Carol could take to ensure they have sufficient, sustainable income in retirement.
Take income from ISAs, OEIC and Bank shares
Interspousal transfer to split OEIC and Bank shares/ensures tax-efficient withdrawals
(4 marks)
ISAs are Income Tax-free
Dividend income from Bank shares tax-
free up to £2,000 (will reduce to £1,000
in April 2023 then £500 in April 2024)
Interest from OEIC will use PSA
Interspousal transfer ensures can use
both Jim and Carol’s allowances
Recommend and justify actions Jim and Carol could take to ensure they have sufficient, sustainable income in retirement.
Top up income with encashment of OEIC up to capital gains annual exempt amount
(2 marks)
Locks in gains/no CGT payable/make use of CGT annual exempt amount at current rate of £12,300
Again, interspousal transfers ensure both annual exempt amounts can be used
Recommend and justify actions Jim and Carol could take to ensure they have sufficient, sustainable income in retirement.
Ongoing reviews
(1 mark)
Monitor performance/asset diversification/change in their needs and objectives and personal circumstances
What factors would you need to consider before advising Jim and Carol if they should increase their pension contributions to their workplace scheme over the next year including investing Jim’s £6,000 bonus as a single premium?
(14 marks)
Income and expenditure required in retirement
Any surplus income/willingness to use investments to top up pension
Will increase pension income/PCLS/reduces reliance on other assets in retirement
40% tax relief on contributions within higher-rate band/tax-free fund growth
25% tax free PCLS/may not be a higher-rate taxpayer in retirement so income likely to
be taxed at basic-rate
Salary/bonus sacrifice may be available/can reduce National Insurance
costs/employer may share NIC savings
If sacrifice bonus Jim will save Income Tax on £6,000/as well as NICs
Contributions will be immediately outside of the estate for IHT
Can have immediate flexible access to pension funds
No administration/deducted from salary
Low charges/subsidised by employer
Flexible death benefits
State Pension entitlement (from aged 66 to 67 depending on DOB)/if they have other
deferred benefits
Single premiums do not benefit from pound cost averaging/dependent on market at
time of investment
Explain how Jim and Carol’s maximum tax-relievable pension contribution is determined.
(8 marks)
Take current annual allowance/£40,000
Determine pension input amounts for current tax year/employer and employee
contributions are included
Deduct pension input amount (from annual allowance)
This gives remaining allowance for current tax year
Determine pension input amounts for previous three tax years
Calculate any unused carry forward allowance
Must use current year’s allowance first
Total contribution cannot exceed earned income in current tax year (salary plus
bonus)
Identify the factors that a financial adviser should consider when determining an adequate level of annual income for their retirement.
(12 marks)
Current expenditure/planned expenditure/capital needs
Guaranteed income/flexible income
Timescales/plan to retire in 6 months
Assets available to provide income/objectives for inherited money/gifts/further
inheritances/priorities
Safe withdrawal rate/sustainability
State Pension benefits/age
Tax status in retirement/use of tax allowances/ISA allowance/to provide tax-
efficiency
Economic conditions/inflation/market conditions/current annuity rates
Longevity/family health/how long will income be required?
Required/expected rate of return on investments
ATR/prospect of fund growth/inflation/cash flow analysis
Health/longevity/income needs of surviving spouse
State the reasons why Jim and Carol should consider continuing to make regular pension contributions in retirement.
(7 marks)
Entitled to contribute £3,600 gross/£2,880 net each year
Receives 20% tax relief
Can benefit from pound cost averaging
Tax-free pension commencement lump sum
Potential for tax-free growth
IHT-efficient/death benefits
Flexible access to benefits
What factors should an adviser consider when reviewing Jim and Carol’s pension arrangements at the next annual review?
(9 marks)
Retirement options taken/level of income they are receiving and from which sources
How inherited money was used
Target income changes/new requirements for lump sums now in retirement
Use of other allowances e.g., ISAs, CGT
Change of personal circumstances including health
Changes in external factors such as economy and political changes/State benefits
Fund valuations and performance
Asset allocation and rebalancing
Changes to ATR/capacity for loss
Explain to Jim and Carol how their State Pension entitlement will work.
(9 marks)
Jim and Carol will receive their State Pension between age 66 and 67
Minimum of 10 years needed to receive any State Pension
Full rate in 2022/23 = £185.15
For a full new State Pension – 35 qualifying years are needed
Qualifying years can be met through contributions or credits
Starting amount calculated at 5/4/2016
Triple lock/State Pension increased by higher of earnings, prices and 2.5%
Taxed as earned income
Option to defer/must be for at least 9 weeks/rate of increase 1% per 9 weeks which
equates to 5.8% per year
State the additional information that an adviser would require to advise Jim and Carol on their savings and investments.
(12 marks)
Investment experience
Level of emergency fund required
Income or growth required/client objectives/timescale
Interest being received on cash ISAs
Type of money market fund/returns
Use of tax allowances/Capital Gains tax/ISA/pension contributions/uncrystallised
losses
Acquisition date and cost of OEIC/base cost of shares
Level of dividends/interest received
Performance
Charges
Are they willing to transfer ownership of their savings or investments
Plans to make gifts/planned use of inheritance
Comment on the suitability of Jim and Carol’s current savings and investments to use for retirement income.
(7 marks)
Excessive cash/emergency fund and does not match their ATR
Their cash ISAs/Money Market funds are not likely to be earning high interest/savings
would be eroded by inflation
They have ISAs for tax efficiency but have not used their allowance this year
Overall, there is insufficient diversification/overweight in UK/no global equities in ISAs or OEIC/no commercial property or other asset classes
Lack of income producing funds to top up income
Jim’s OEIC fund does not match ATR
Individual shares match ATR and could provide income from dividends/restricted to
one sector so high risk
Explain the benefits and drawbacks of maintaining Jim and Carol’s existing fund choices in their ISAs and OEIC when they retire.
Money Market Funds - ISA
(1 benefit and 3 drawbacks)
Benefits:
Liquid/could be used to supplement
income in short term
Drawbacks:
Low returns/will not keep pace with inflation
Does not match ATR
Have sufficient emergency funds
Explain the benefits and drawbacks of maintaining Jim and Carol’s existing fund choices in their ISAs and OEIC when they retire.
UK Fixed-Interest Funds - OEIC
(1 benefit and 4 drawbacks)
BENEFITS:
Suitable as part of a wider portfolio/as
offers diversification
DRAWBACKS:
No index-linking for inflation proofed income
No global diversification
Amount held in fixed interest does not match ATR
Limited growth potential and funds
have been very volatile recently given risk/reward
Explain the benefits and drawbacks of maintaining Jim and Carol’s existing fund choices in their ISAs and OEIC when they retire.
UK Smaller Companies fund - ISA
(3 benefits and 3 drawbacks)
BENEFITS:
Good potential for growth
Good hedge against inflation
Matches ATR
DRAWBACKS:
Too much of portfolio held in UK smaller companies/needs to be diversified/no geographical diversification
Not normally an income producing fund
Reduced liquidity
Identify the factors to consider when deciding if the Money Market funds are a suitable investment for Carol.
(7 marks)
Amount held in these fund as a percentage of overall portfolio
Returns
Charges
How long would it take to release funds/could be used for short term income needs
Assets contained in the underlying portfolio
ATR
Experience of fund management team
Recommend and justify the actions you would take to ensure Jim and Carol’s investments and savings funds are suitable for when they retire.
Re-direct some fixed interest holdings to global index-linked gilt funds
(2 marks)
Protection against inflation
Geographical diversification
Recommend and justify the actions you would take to ensure Jim and Carol’s investments and savings funds are suitable for when they retire.
Re-direct some holdings to global corporate bond funds
(4 marks)
Diversification - bond funds normally hold a range of bonds of varying maturities/geographical diversification
Liquidity - daily trading
Can provide a regular income
Can match ATR
Recommend and justify the actions you would take to ensure Jim and Carol’s investments and savings funds are suitable for when they retire.
Re-direct some holdings to multi-asset funds
(5 marks)
Can match ATR
Provide income/aim to maintain
income and capital in line with inflation
Asset allocation expertise/uses wider
range of assets/investment strategies
Increases diversification/reduces
volatility within one fund
Can access specialist
investments/institutional funds
State the benefits of Jim and Carol using the services of a DFM to look after their investments.
(7 marks)
Professional active management/wider investment options/diversification
Potential for higher returns
Can target objective of increased income in retirement
Bespoke service to match their ATR
No requirement for ongoing involvement
A DFM may ensure use of CGT annual exempt amounts and ISA allowances
Should provide regular reviews/updates on performance
State the drawbacks of Jim and Carol using the services of a DFM to look after their investments.
(3 marks)
Higher charges
No guarantee of performance
May invest in unacceptable sectors/lack of control
Recommend and justify the actions that Jim and Carol could take to improve the tax efficiency of their current financial arrangements.
(5 marks)
They are both higher-rate taxpayers but likely to be basic-rate taxpayers in retirement so:
Both can make additional pension contributions before retirement
40% tax relief/tax efficient fund/IHT efficient
Use their annual ISA allowance/tax free growth on ISA/bed and ISA OEIC and/or Bank
shares
Interspousal transfer of OEIC and Bank shares
o Uses both their PSA, currently £500 (will increase to £1,000 in retirement if they become basic-rate taxpayers) on interest from OEIC
o Can use both their dividend allowance on dividends from shares/allowance currently £2,000 but reducing to £1,000 from 6 April 2023 then £500 from 6 April 2024/no gain on interspousal transfer
o Can each use their CGT exempt amount on gains from OEIC and shares
Explain to Carol and Jim how the income and capital gains from their OEIC and Bank
shares are likely to be treated for tax purposes.
Bank shares
o Pay dividends/Carol higher-rate taxpayer so tax rate 33.75% - likely to drop to
basic-rate in retirement (8.75%)
o She has a £2,000 dividend allowance/dropping to £1,000 from 6 April 2023 and
£500 from 6 April 2024
OEIC
o As funds are held in fixed-interest securities income treated as interest
o Can use PSA of £500/this will increase to £1,000 if they are basic-rate taxpayers in
retirement
Potential for CGT on both OEIC and Bank shares on disposal
o Taxed @ 20% if encashed in 2022/23 tax year as higher-rate taxpayers/may become basic-rate taxpayers after retirement (although CGT annual exempt amount reducing in 2023/24)
o Bank shares base cost will be date of Carol’s mother’s death o Use of CGT annual exempt amount
o Any losses can be offset against gains
Recommend and justify the changes that could be made to their existing savings and investments to enable them to generate a tax efficient income to top up their pension income in retirement.
(10 marks)
Ensure cash holdings are achieving highest possible interest rate/fixed term likely to offer higher interest rates
Switch some cash ISA holding to stocks and shares ISA
Cash ISA has limited income/returns will not match inflation
Diversify portfolio
Switch funds to match ATR/higher potential for income and growth/can take capital
withdrawals
Fund switches can be made on platform/free of charge
No tax implications for switches
Interspousal transfer of OEIC/no gain on transfer/can use both Jim and Carol’s PSA
(£500)
Use ISA allowance/Bed & ISA OEIC/ ISA funds to align to match ATR and income needs
Maintain individual Bank shares/matches ATR/interspousal transfer to use both
dividend allowances and CGT annual exempt amounts on eventual disposal
Explain to Carol how retaining the existing portfolio of UK Bank shares could help provide additional tax efficient income.
(10 marks)
Provides dividend income/lower tax rates on dividend income
Possible Interspousal transfer to split gains/income for tax efficiency
No gain/no loss for CGT on interspousal transfer
Can then use dividend allowance each currently £2,000 is set to reduce to £1,000 then £500 over next two tax years
Matches their ATR
Can use CGT exempt amounts
Flexible withdrawals
Can bed and ISA each tax year
Potential for capital growth/dividend growth
Provides degree of inflation proofing
Explain to Carol the drawbacks of retaining the UK Bank shares.
(4 marks)
High risk/shortfall risk/capital loss
Lack of geographical/sector diversification
Dividend income taxable above £2,000 (currently)/not held in ISA
May be liable to CGT on encashment
State the factors that an adviser should take into account when reviewing Jim and Carol’s investments at their next annual review meeting.
(9 marks)
How the £200,000 was used/gifts made
Personal circumstances/changes/health/family/retired
Income/outgoings/budget/inheritances/new money/tax status
ATR/capacity for loss
Current valuations/investment returns/growth/rebalance/performance
Use of tax allowances
New products/changes to legislation/taxation including impact of reduction of
dividend allowance and CGT annual exempt amount
Economic position/market changes
Charges/fees
Recommend and justify the actions that Jim and Carol could take to maximise the value of their estate for their beneficiaries.
(10 marks)
Pension death benefit nominations/make pension contributions/IHT free
Use assets within estate before pensions/reduces value of taxable estate
Use of gifting allowances/removed from their estates
Consider EIS or SEIS/matches ATR
Make charitable gifts/reduces effective IHT rate
Make PETs and CLTs/reduces IHT over 7 years
Review whole-of-life policy and maintain sum assured to help pay any residual IHT on
death/ensure policy is under trust
Consider DGT/immediate discount/growth outside of estate
Spousal bypass trust for pensions/avoids death benefit being added to member and
spouses’ estate should member die first/spouse can benefit if member dies first, and
children can still be beneficiaries
Set up Deed of Variation for inheritance/pass directly to children’s estate/does not
pass into Jim and Carol’s estate/reduces potential for IHT of 40% on the inheritance
Explain to Jim and Carol their current IHT position.
(6 marks)
Each has a Nil Rate Band (NRB) of £325,000
o Unused NRB can be transferred to surviving spouse
Each has a Residence Nil Rate Band (RNRB) of £175,000
o Home must be inherited by direct descendants (children) or lineal descendants e.g., grandchildren
o Unused RNRB can be transferred to surviving spouse
Total NRB plus RNRB on 2nd death is £1m
Their total estate is currently worth £1,325,000
Current IHT liability = £325,000 x 40% = £130,000
Estate will increase by a further £200,000 when they receive the inheritance/additional £80,000 IHT liability
Recommend how Jim and Carol can make gifts to immediately mitigate their IHT liability.
(3 marks)
£3,000 annual allowance (and previous years if not used) - reduces estate immediately
£250 small gifts allowance- reduces estate immediately
Make gifts out of surplus income- reduces estate immediately
o expenditure must be from income and not capital
o must be regular and must not affect their normal standard of living
o if cannot be covered by an exemption these will be PETs
Recommend and justify how Carol should use her inheritance to help her meet her and Jim’s financial objectives.
(9 marks)
Carol and Jim should make single premium pension contributions/ensure contribution is sufficient to top up pension income to required level for retirement in 6 months/use carry forward if required:
supplements retirement income
tax relief on contributions/tax free growth
pension contributions would be immediately free from IHT
if drawdown/UFPLS used can be passed on through generations
Use ISA allowance for current year/tax free income/growth
Consider gifts: £3,000 annual allowance and £250 small gifts allowance/immediately
outside of the estate for IHT
Set up Deed of Variation for any excess:
money will pass directly into children’s estate/bypassing Jim and Carol’s estate so no
IHT payable
Explain to Jim and Carol how a Deed of Variation is set up and the formalities which must be incorporated within the deed.
(9 marks)
Must be in writing/legal document
Signed/dated/witnessed
Deed states what is being varied in Will/intestacy
Must be clear who is benefiting from the variation
All affected beneficiaries must agree and be over 18 and be of sound mind
It will be treated as taking place on the donor’s death
Must be done within 2 years of death
Deed should not be for consideration/money or money’s worth
Deed should contain a statement that the variation is to have effect for IHT
Identify and explain the range of options in respect of the whole of life policy when it reaches its first review later this year.
(6 marks)
Accept increased premium/to maintain current sum assured
Retain existing premium - resulting in reduced sum assured
Reduce premium/sum assured will reduce – maintains affordability of policy
Can cancel policy at no cost:
loss of premiums/unlikely to have a surrender value
Consider rebroke /Jim and Carol have stopped smoking so may be able to achieve
better premium
What are main features and tax advantages of Jim and Carol investing in an Enterprise Investment Scheme?
(9 marks)
Can be investment in a single company
Tax relief at 30% on investment of up to £1m per tax year (£2m if extra £1m is in
knowledge intensive company)
Tax relief given as a tax reducer
Tax relief reclaimed if shares sold within 3 years
Can use deferral relief for CGT on potential gains of OEIC or Bank shares if reinvested
in EIS shares
No liability to CGT on the EIS after 3 years
Any dividends are taxable
IHT relief after 2 years
Matches ATR as part of a diversified portfolio
Jenny’s financial aims are to:
(3 marks)
- ensure her protection arrangements are adequate for her needs
- consider investment options following the divorce settlement
- execute the pension sharing order
State the key additional information that you would require to advise Jenny on providing adequate financial protection until Sasha finishes university.
(11 marks)
Expected costs of university/living and tuition fees
Level of income needed in the event of death or serious illness
Any lump sum needed in the event of death or serious illness
Term of cover/duration of university fees/period of dependency
State of health/family health/smoker/hazardous hobbies/lifestyle
Affordability/budget
Current expenditure/cash flow analysis
Will in place/willingness to write a new Will
Any assistance from family members/use of savings
Any debts/liabilities
Confirm Sasha is nominated as beneficiary on pension
Explain to Jenny the key weaknesses in her current financial and protection arrangements, following her divorce.
(11 marks)
She is now the sole earner/rely on her salary/single parent
No life cover/no death in service (DIS)
No critical illness cover
No Income Protection cover
Loss of Private Medical Insurance/Sasha’s PMI cover dependent on her father’s employment
Her capital will be eroded in event of her illness
No regular maintenance payments from Faizal/ex-husband
Limited pension fund
Any Will made during her marriage will now be out of date
Nomination on her pension may be out of date/or needed
Inflation risk on cash holdings/poor return/excess cash
Explain to Jenny the factors that she should take into consideration before deciding on whether she should take out an individual Private Medical Insurance policy through her ex-husband’s company scheme provider.
(10 marks)
No further underwriting/continuing cover
Will cover pre-existing conditions/comprehensive cover/any exclusions?/any restrictions
Limited time period to apply for continuing cover
Cost of cover/is it affordable?
Can she find cheaper cover?/can she reduce cover?
Has she ever made a claim?/policy excess?
Is she in good health/does she need comprehensive cover?
Premiums will increase each year/may become unaffordable
Is she willing to self-insure/self-fund?/priority
Would her current employer consider offering any cover?
Recommend and justify one suitable protection policy to protect Jenny and Sasha in the event of Jenny’s long-term illness.
Income Protection
- To replace income in the event of illness/incapacity
- 4 week deferred period to pay out as soon as possible as doesn’t appear to have sick pay from employer.
- Own occupation to give the widest definition
- Benefit will be 50-60% of earnings
- Term would be to selected retirement age
- Guaranteed premiums for peace of mind that they will not go up
- Indexation in order to keep pace with inflation
Recommend and justify one suitable protection policy to protect Jenny and Sasha in the event of Jenny’s death as well as serious illness.
Level term/decreasing term life or earlier critical illness policy
- Pays out a tax-free lump sum in the event of death or earlier diagnosis of a serious illness/total permanent disability included
- Single life policy in trust for Sasha as it will be outside of the estate/speedy payment. Use split trust (for CIC)
- Term to end of University/Sasha financially independent/or Jenny’s normal retirement date
- Sum assured to cover University fees/living costs
- Indexation to keep pace with inflation
- Waiver of premium in order to maintain the policy in the event of long-term illness or disability
- Guaranteed premiums just for the certainty of cost throughout the term
Assuming Jenny does NOT have a Will, and in the event of her death, describe the process of how her estate will be settled and identify the potential problems that could arise.
(10 marks)
Administrators required/personal representatives
Letters of administration
Any debts will need to be paid/assess value of debts
The estate is valued
The IHT liability is calculated
Any IHT must be paid within six months
This must be paid before estate can be distributed
Sasha’s assets held in trust until age 18
It will cause delays
Funeral arrangements will not be known
Assuming Jenny does have an existing Will, explain to her why she should review it and any nomination on her pension following her divorce.
(8 marks)
A Will is not revoked by divorce
But any Will may be out of date/may need updating
Treated as if Faizal has died/cannot benefit (unless the Will was made in anticipation
of divorce)
He cannot be an executor of the Will/may need to be changed
Rest of Will remains valid
Need a trust for Sasha as currently a minor
Appoint trustees of choice
Update any nomination on her pension
Identify the additional information that you would require in order to advise Jenny on this aim.
(13 marks)
Does she want to retain access or will she consider use of trusts
Timescale
Current net income
Consideration of how much emergency fund is needed
Return on existing savings and investments/performance of pension funds
Consideration of the use of a discretionary fund manager
Willing to look at asset allocation/diversification to better match her ATR
Does she need income/does she have any income requirements?
Details of pension contributions/willing to use carry forward
Would employer support a higher contribution/salary sacrifice available?
Is she claiming child benefit?
Has she done a formal risk profile assessment?
Willingness to continue investing in ISAs
Comment on the suitability of Jenny’s existing savings and investments
(6 marks)
Range of asset classes not used/lack of diversification/underweight in equities
Does not match Jenny’s attitude to risk
Is ISA allowance being fully used
Adequate/excessive emergency fund
Current account likely to be paying no/low interest
Too much held on deposit/above FSCS limit although 6-month temporary high
balance applies
What further information would you need to advise Jenny on funding university costs for Sasha so that she leaves without any debts?
(10 marks)
What are the expected living expenses/allowance whilst at university?
What tuition fees can be assumed
Assumed inflation rate
Affordability/budget
Is she expecting Sasha to get paid work/contribute to cost?
Any other help/grandparents?
Will she want to fund the costs from income or capital?
Is she prepared to put in place protection arrangements to cover university costs
should she fall ill/die?
Priority of the aim
Use of protection products
Identify the key factors that Jenny should consider before deciding if she will provide funds to repay any student loan after Sasha graduates from university.
(7 marks)
- How much is the loan?/What is the interest rate?
- Sasha may never have to repay/earnings may never reach threshold
- Debt will be cancelled after 30 years
- Student Loan does not affect Sasha’s credit rating
- Loss of capital/may impact her own retirement objectives/affordability/tax considerations
- Loss of potential investment growth
- Political risk/loans may be cancelled in future.
What are the advantages and disadvantages of using Jenny’s existing ISAs to provide funding for university?
(3 marks)
(1 advantage and 2 disadvantages)
Advantages
No CGT liability on encashment
Disadvantages
Loss of potential growth in value of investment
Cash can only be replaced by using future year’s allowances/unless flexible ISA
Explain to Jenny why the holding in her existing cash deposit account may be unsuitable for her circumstances.
(10 marks)
Lack of diversification
Jenny may need income/growth over the longer term
Low interest rate/poor rates of return from cash
Not tax‐efficient/interest is taxable although may be covered by her PSA
Not in line with attitude to risk/too low risk
Default risk as exceeds Financial Services Compensation Scheme (FSCS) limit of
£85,000.
Temporary additional FSCS protection up to £1m for 6 months/proceeds of divorce
Lack of potential for growth/better growth potential available elsewhere
Inflation risk
Interest rate risk
Identify the key benefits for Jenny of using a portion of the lump sum from her divorce to top up her existing pension contributions.
(7 marks)
Increases fund/increases chance of retiring when she wants to
Increased pension commencement lump sum
Tax-free growth/tax relief
Employer matching/lower charges/less admin
Carry forward available
Nomination for Sasha
IHT-free/reduces IHT liability/income tax-efficient on death before 75.
Identify the key drawbacks for Jenny of using a portion of the lump sum from her divorce to top up her existing pension contributions.
(5 marks)
May have limited affordability
Loss of liquidity/loss of access to capital until normal minimum pension age
No pound cost averaging/investment risk/moderate capacity for loss (CFL)
Only 25% Pension Commencement lump sum (PCLS) and income is fully taxable
Contributions limited by annual allowance/earnings limit.
Explain to Jenny why she could consider investing some of her existing pension fund into a range of global equity funds.
(9 marks)
Global diversification/can invest in any area
Currently most of portfolio in cash/limited equities and only in the UK
Reduces concentration risk/larger selection of companies
Greater growth prospects/developing markets/tech stocks
Different economic cycles globally/reduced correlation
Needs growth/she has time for some volatility
Can match her attitude to risk (ATR)
Professional/active/passive management/no Alpha for tracker fund
Global equity may pay higher dividends/benefit from currency movements
Recommend and justify a range of suitable actions that Jenny could take with her pension.
(5 marks)
o Increased regular pension contributions for tax relief/tax free growth
o Pound-cost-averaging to reduce volatility/increase returns
o Ensure maximum employer matching for contributions
o Use salary sacrifice to increase pension contributions/reduce NICs
o State Pension/BR19
Recommend and justify a range of suitable actions that Jenny could take with her savings and investments.
(15 marks)
o Increase exposure to equities through collectives
o Diversification/choice of funds to match her ATR
o Equities tend to outperform other assets over medium to longer-term
o Greater potential for capital growth
o Pound-cost-averaging on regular savings benefits from volatility/reduces market
timing risk
o Jenny can use her currently unused dividend allowance
o No CGT on internal fund changes/can use CGT exempt amount o She retains control and access
o Flexibility with contributions/can start and stop
o Suitable for medium/long term investment
o Reduce cash balances
o Switch cash ISA to stocks and shares ISA
o Inflation risk on cash/poor returns from cash
o Continue investment in ISAs for tax-free growth/income
o Reduce monthly expenditure if possible
Explain the three types of physical replication used by tracker funds giving one advantage and one disadvantage of each.
- Full Replication
Where each constituent of the index being tracked is held in accordance with its index weighting.
Advantage: Accurate.
Disadvantage: Expensive.
Explain the three types of physical replication used by tracker funds giving one advantage and one disadvantage of each.
- Stratified Sampling
A representative sample of securities from each sector of the index is held.
Advantage: Less expensive.
Disadvantage: Potentially encourages biases towards those stocks with the best perceived prospects.
Explain the three types of physical replication used by tracker funds giving one advantage and one disadvantage of each.
- Optimisation
Computer modelling to find a representative sample of securities that mimic the broad characteristics of the index being tracked.
Advantage: Costs less than replicating the index.
Disadvantage: More complex.
Outline to Jenny the pros of being invested in a tracker fund.
(10 marks)
Low cost/cost effective
Run by computer system/no human judgement
Potential for growth
Perform in line with index
Exposure to different asset classes
Can access geographical diversification/global
Can track any index/wide range of indices to track
Liquid
Easy to follow performance/understand
Active managers don’t always outperform
Outline to Jenny the cons of being invested in a tracker fund.
(5 marks)
Will underperform the market due to charges
Tracking error/will never match market exactly
Perform poorly in falling market
No active management/no alpha
Lack of control over underlying assets
Explain to Jenny why National Savings & Investments Premium Bonds may not be suitable for meeting longer-term objectives.
(7 marks)
She has excess cash/emergency fund
No interest/income paid on Premium Bonds
No potential for capital growth
Unknown returns/may not win a prize
Inflation risk/returns unlikely to match inflation
Suitable for short-term holding/not suitable for long-term
May not match attitude to risk
Recommend and justify why Jenny might consider using a range of multi-asset funds to invest some of her lump sum from the divorce.
(8 marks)
Inflation risk on cash/poor returns/multi-asset funds protect against inflation/should out-perform cash
Wide range of assets available/diversification
Non-correlation of assets
Reduces volatility/risk
Can be active/passive/professionally managed
Risk rated to meet ATR/cash does not match ATR
Fund switching/easy to change funds/liquidity
Could provide additional income/dividends
Explain the tax consequences if Jenny invests into a range of collective investment
funds.
(8 marks)
Internal gains not taxed
If equity based, she could use her dividend allowance
Dividends will be taxed at 8.75% up to the basic-rate threshold
Interest from fixed interest investment taxed at 20% up to the basic-rate threshold
CGT exempt amount of £12,300
Gains subject to CGT at 10% (if stays a basic-rate taxpayer)
Any assignment/transfer/fund switch is a CGT disposal
Tax return required/cost/admin
Explain to Jenny how using a discretionary trust would help with providing an income to Sasha and improve her own IHT situation.
(9 marks)
Transferring lump sum into a discretionary trust for the benefit of Sasha
Jenny would be trustee so retains control during her lifetime
Sasha would have no right to benefit, it would be at the discretion of the trustees
The gift into trust would be a chargeable lifetime transfer
If gift is below the nil rate band there is no IHT charge at outset
Jenny as settlor would need to survive for 7 years for the gift to fall out of her estate
The trustees could invest in non-income producing assets e.g., investment bonds
Segments/the policy could be assigned to Sasha when she needs money
The money could be used for Sasha’s university fees and living expenses
Explain pension sharing to Jenny.
(10 marks)
Pension sharing divides the scheme member’s pension rights at the time of divorce
As Faizal’s scheme is a defined contribution scheme, the amount will be expressed as
a percentage of his fund
Jenny’s share is 50% of the value of the pension scheme currently worth £180,000
Jenny could transfer this to her own workplace pension scheme or to a personal pension
The original scheme can, but does not have to, offer Jenny membership
Jenny will need to make an active choice about where she wishes her pension credit to go
When pension benefits are shared, they are passed irrevocably to Jenny
Pension sharing is therefore a clean break for both
The pension provider will usually charge a fee for pension sharing
Sharing orders must normally be implemented within four months of the scheme
receiving the necessary information
Pension Sharing - Advantages to Faizal as pension member?
(4 marks)
Potentially loses less value than if offset or earmarking had been used
Immediate settlement and a clean break
No Income Tax implications for Faizal
Pension debit will not count towards
his lifetime allowance
Pension Sharing - Advantages to Jenny?
(8 marks)
Pension credit does not affect her annual allowance
Pension not lost on her remarriage or cohabitation
Pension credit not lost on Faizal’s death
Immediate settlement
A clean break
She has control of investment
She can decide retirement date
She can decide on strategy/FAD or
annuity
What factors would an adviser need to consider when suggesting a suitable solution for Jenny’s pension credit?
(3 marks)
If there is an option for funds to remain in Faizal’s scheme/fund choices/charges/any guarantees
Details of Jenny’s workplace scheme/fund choices/charges/ease of having pension benefits in one place
Use of an individual SIPP/wider investment choice/charges may be higher
Explain why it may be beneficial to transfer the value from Faizal’s pension plan into a self‐invested personal pension plan (SIPP).
(5 marks)
Wider investment choice/can hold cash/diversification
A choice of benefit options e.g., flexi‐access drawdown, phased
Online access/ease of admin/can monitor performance
Easier to match attitude to risk
Potential for higher returns
State the main reasons why you might consider Jenny to be a ‘vulnerable’ client at present.
(6 marks)
Recent divorce/single parent
Moderate capacity for loss
Possible affordability issues
No maintenance payments from Faizal
Limited pension savings
No protection in place
Describe the action that should be taken to provide Jenny with an appropriate
level of service to reflect her current ‘vulnerable’ status.
(8 marks)
Family member/trusted friend present at meetings
Clarity of explanation/no jargon/check her understanding
Set out explanations in writing
Give time to consider decisions/ensure no ‘undue influence’ exerted over her
Flexible outcomes required/her position has changed
Record ‘difficult’ information
Strict confidentiality for information revealed
Fact finding/compliance/recommendations/reviews
When considering a review identify the key events relevant to Jenny when a review should be conducted.
(9 marks)
Change in risk profile/capacity for loss
Change in tax position/employment
Change in health
Marriage/cohabitation
End of tax year - use of ISA allowance
When Sasha starts university
Review progress against objectives
Legislative changes / economic changes
Review of fund performance of ISA and pension
Identify and explain the key client-specific factors that apply to Jenny that you should consider when assessing her capacity for loss.
(9 marks)
She has adequate emergency fund so able to tolerate loss/volatility
Just returned to full time work
Cautious to medium risk profile
Level of income/capital/expenditure
She has no mortgage
Due to receive share of pension
She has one financial dependant
Any inheritances expected
Does she have investment experience/knowledge
Explain to Jenny the requirements for making a valid Will.
(6 marks)
She must be of sound mind
She must be aged 18
It must be in writing
It must be signed by Jenny as testator
It must be signed by a minimum of two witnesses who are not executors or
beneficiaries
There must be a clear intention to dispose of property
State the actions Jenny could take to reduce or mitigate the Inheritance Tax liability on her estate.
(7 marks)
Make gifts/potentially exempt transfers to Sasha
Transfer lump sum into trust for Sasha / outside her estate after 7 years
Use annual allowances/£3,000/£250/gifts out of normal expenditure/maintenance
Consider use of DGT to create income for her/Sasha and reduce IHT
Make pension contributions
Make charitable donations
Take out a whole of life policy in trust for Sasha if there is still an IHT liability after all
planning has been done
State the process that you would follow to enable you to establish any shortfall in Jenny’s current pension arrangements.
(13 marks)
Desired level of income/need for capital
Current expenditure/affordability
Cashflow modelling
BR19/State pension forecast
Growth assumptions based on ATR/stress test/projection from existing provider
Inflation assumptions
Current contributions/any lump sums
Costs/charges
Current/future tax status
Other sources of income/use of other assets
Calculate fund value/contributions needed to provide income
Based on annuity rates/safe withdrawal rate (SWR)/longevity
Compare projections with capital value required/establish shortfall.
Explain how diversification may be used to manage and reduce risk.
(4 marks)
Diversification reduces risk by reducing concentration/ increasing the number of asset classes
Some asset classes are not strongly correlated - a loss with one asset class might not mean a loss in another
Geographical diversification spreads the risk across a number of different economies / currencies / national markets
Sector diversification reduces the risk associated with specific areas of the economy or particular firms
Student loans
(7 marks)
Loans start to be repaid the April after the course is finished
Repayments will only be made if income is over the repayment threshold currently £27,295 a year
If income falls below the threshold repayments will stop and will only restart once
income is over the threshold again
Additional voluntary repayments can be made at any time
Repayments are 9% of income over the repayment threshold
Repayments are made through the UK tax system if employed and through self-
assessment if self-employed
Current interest rate is 6.3% (capped)
Student Loans - Tuition Fee Loan
(4 marks)
The university sets the tuition fee
The loan is paid directly to the
university
The student has to pay it back
Full-time students can get up to
£9,250
Student Loans - Maintenance Loan
(4 marks)
Details of household income must be given along with the course start date
The loan is paid directly into the student’s bank account at the start of each term
It has to be paid back
In the 2022/23 academic year the loan
is up to £9,706 if living away from parents and outside London
Outline the key information that should be taken into consideration when building a lifetime cashflow model to help Jim and Carol with their future income needs.
(9 marks)
Current income needs/income needs in retirement
Planned capital expenditure/new capital/gifts/proposed use of inheritance
Current assets/current income/level of guaranteed income
Growth rate assumptions/interest rate assumptions/charges
Inflation assumptions
Attitude to risk/capacity for loss
Longevity/health
Market corrections/estimates of market falls/stress test
Impact of death of either
What are the benefits and drawbacks of Jim and Carol using flexi-access drawdown rather than annuities?
(13 marks)
Benefits:
Potential growth/stay invested
Flexible income
Tax efficient income
IHT free/outside of estate
Annuity rates may improve/no mortality drag
Choice of successor/flexible death benefits
Matches ATR
Drawbacks:
Increased fees/charges
Investment risk/loss of mortality gain
May fritter funds/deplete funds before death
Need advice/complex/reviews
Income not guaranteed
Triggers MPAA
What further information would you need in order to advise Jim and Carol on their existing whole of life policy?
(11 marks)
When did the policy start?
What is the sum assured – is it sufficient?
Is the policy in trust for children?
Details of funds
What is your attitude to risk with regard to this policy?
Are Jim and Carol aware that at the review the premiums/sum assured may have to
change?/Is there an option to increase cover?
On what basis was the policy set up – minimum/maximum/type of
cover/increasing/waiver of premium?
What is the current value of the policy?
Do you have a current surrender value?
Does it have critical illness cover?
Health/due to recent change in smoker status consider re-broking
List the benefits and drawbacks of using an Income Protection policy as opposed to an Accident, Sickness and Unemployment policy.
(11 marks)
(6 benefits and 5 drawbacks)
Benefits
Cannot be cancelled by insurer/can claim more than once
Can claim for a longer period/to retirement
Own occupation definition available
Indexation of benefits
Can include proportionate/rehabilitation benefit
Guaranteed Premiums
Drawbacks
Usually more expensive
Longer deferment period before receipt of claim
Does not cover unemployment
No lump sum benefits/no cover upon death
Stricter underwriting
Explain to Jenny why she should consider transferring her cash ISA to a stocks and shares ISA which invests in a fixed interest or equity-based fund.
(11 marks)
She has excess cash holdings
Fixed interest and some equity exposure matches her attitude to risk
Cash exposed to inflation risk
Interest rate risk
No real growth potential on cash/potential for growth on equities
Transfer maintains ISA wrapper/transfer does not use current year ISA
Wide fund choice/hold on platform/active/passive
Suitable for long-term investment
ISA wrapper is wasted on cash as she has a PSA
Increases diversification within her portfolio
Equities generally outperform other assets
Outline the key factors that a financial adviser should take into account when assisting Jenny with how to prioritise her protection needs.
(11 marks)
Income/capital needed on long term illness/serious illness/death
Timeframe/objectives/priorities
Affordability/planned capital expenditure
Liabilities/debts/credit cards
No sick pay from employer
No personal protection in place
Support from family/any inheritances expected
Willing to use current assets/savings/investments/emergency fund
Underwriting issues/family health history/hazardous pursuits/smoker status
Attitude to risk/her capacity for loss since the divorce
Use of trusts/nominations/Will in place
Case Study 1: Jim and Carol
Key Facts:
Jim and Carol are aged 62
They plan to retire in 6 months
They have two financially independent
children and one grandchild
They have recently given up smoking
Initial Thoughts:
Consider current health
Consider plans and income required in retirement
They will not receive State Pension until age 66 to 67 (depending on DOB) – how will they fund interim years?
Case Study 1: Jim and Carol
Key Facts:
Jim earns £62,000pa
He is a higher-rate taxpayer
He will also receive a £6,000 bonus
His total pension contribution is 14% of salary
His current pension fund of £340,000
invested in Global equity and UK Equity funds
Carol earns £75,000pa
Her total pension contribution is 12% of salary
Her current pension fund of £280,000 invested in a fixed-interest fund
Initial Thoughts:
Consider increasing pension contributions to maximise 40% tax relief
Pension funds likely to be insufficient to meet pension income needs
Consider suitability of funds to match ATR and timeframe to retirement
Do they have other deferred pension plans?
Consider level of State Pension benefits they will receive
Case Study 1: Jim and Carol
Key Facts:
Current total assets = £1,325,000
Carol is also due to receive an
inheritance of £200,000
Initial Thoughts:
Review whole-of-life policy, does it meet current IHT liability?
Consider deed of variation on inheritance to pass directly to children
Consider use of inheritance to top up pension income
Case Study 1: Jim and Carol
Key Facts:
Savings and Investments:
£110,000 in cash (includes cash ISAs)
Jim has £220,000 in S&S ISAs
Carol has £170,000 in S&S ISAs
Jim has an OEIC valued at £100,000
Carol holds individual UK Bank shares valued at £75,000
No desire to invest in ESG funds
Initial Thoughts:
Consider tax efficiency of investments/higher-rate taxpayers, likely to become basic-rate taxpayers in retirement
Consider suitability of investment funds
Recommend alternative solutions
Both have a PSA of £500
Both have a dividend allowance of £2,000 – Jim does not have relevant assets to use his
Case Study 1: Jim and Carol
Key Facts:
They have up-to-date Wills and lasting powers of attorney
Initial Thoughts:
Consider ways to ensure that as much of estate passes to the children on second death
Case Study 2: Jenny
Key Facts:
Jenny has recently finalised her divorce
She is aged 48
Sasha, aged 17, lives with Jenny
Initial Thoughts:
No mention of Wills/impact of divorce on any Will
Does she receive Child Benefit for Sasha?
No mention of health status
Case Study 2: Jenny
Key Facts:
Mortgage free home in Jenny’s name
Home valued at £400,000
In addition, a lump sum of £175,000 held on deposit
No maintenance being paid
Pension sharing order for ex-husband DC pension scheme – 50% of the scheme value – Jenny’s share is £180,000 current value
Initial Thoughts:
Jenny’s estate is over the IHT nil rate band
What is the interest rate being received on savings
Consider the options for the lump sum
Consider the options for pension sharing order
Case Study 2: Jenny
Key Facts:
Jenny works full-time
Gross salary of £46,000 pa
Member of her employer’s qualifying workplace pension scheme
She pays 5% of her gross salary and her employer matches this
Pension fund value = £115,000
Invested in cautious managed fund
Initial Thoughts:
Jenny is a basic-rate taxpayer
No sick pay/life cover/CIC or PMI
Total review of protection needs required
Does pension fund match her ATR?
Pension funding options/salary
sacrifice?
Case Study 2: Jenny
Key Facts:
Sasha is planning on going to university next year
Jenny does not want her to graduate with a lot of debt
Initial Thoughts:
Merits of funding tuition fees and living expenses herself instead of Sasha using student loans
Case Study 2: Jenny
Key Facts:
Jenny is a cautious to medium risk investor/no ESG concerns
Moderate capacity for loss
She has an emergency fund of
£15,000
Cash ISA of £45,000
Premium bonds of £25,000
S&S ISA – UK tracker fund – value £48,000
Initial Thoughts:
Cash flow analysis?
Interest rate on cash ISA?
Does she want to keep premium bonds/what has the return been?
Return on stocks and shares ISA
No use of dividend allowance
PSA can be used against interest
Lack of diversification within portfolio
Too much in cash/only UK equity exposure
What is a Gift & Loan Trust?
Using this type of trust allows an individual to access their original capital at any point and in any amount but the growth will not be included to their estate for Inheritance Tax purposes.
The outstanding loan remains in the settlor’s or donor’s estate for Inheritance Tax purposes. The loan can be waived in part or in full at any time.
What is a Discounted Gift Trust?
A Discounted Gift Trust is a trust based inheritance tax planning arrangement for those individuals who wish to undertake inheritance tax planning but who are unable to lose full access to their investment.
The term “discounted” is used because the value transferred on establishing the trust is less than the amount invested.
There are two basic types of Discounted Gift Trust, but many variations on the general theme.
Nil or negligible discount is available where the settlor is, or is “rated” over 90. The value transferred in such cases is the policy premium.
A Discounted Gift Trust (DGT) is a trust-based inheritance tax (IHT) planning arrangement for those individuals who wish to undertake IHT planning but who are unable to lose full access to their investment. In a DGT, access is typically provided by means of a series of preset capital payments to the investor who will be the settlor of the trust.
The term ‘discounted’ is used because the value transferred on establishing the trust is less than the amount invested. This is the logical consequence of the fact that the settlor is entitled to a stream of capital payments. The settlor is typically entitled to payments on specified dates subject only to be alive on those dates. The settlor’s transfer or gift is the bond/policy premium less the value of the payments receivable during his/her lifetime.
Advantages of DGT’s?
(4 marks)
- allow an IHT-effective transfer
- allow settlor access through preselected payment stream
- may attract a discount
- tried and tested – ‘work as described’
Disadvantages of DGT’s?
(3 marks)
- relatively inflexible
- payment stream can’t be changed
- payments generally capped so as not to exceed the 5% rule
What is a Loan Trust?
A loan trust involves an individual establishing a trust. But rather than making a gift, the settlor lends money to the trust. The trustees then invest this money, typically into an investment bond, for the benefit of the trust beneficiaries.
The settlor can demand repayment of the outstanding loan at any time - this can either be in full or in part. If regular loan repayments are needed, the trustees can repay the loan by using the 5% tax deferred withdrawal facility from the bond. The settlor cannot benefit from the trust fund - any fund growth must be used for the benefit of the trust beneficiaries.
Key points:
- The amount of the outstanding loan remains within the settlor’s estate for IHT
- Any growth, over and above the outstanding loan, is immediately outside the settlor’s estate
- The loan is interest free and repayable on demand
- The 5% tax deferred allowance on bonds can be used to make loan repayments without an immediate tax charge
- If access to the loan is no longer required it can be waived or gifted
Waiving or gifting the right to the loan in the settlor’s Will can avoid the need to call in the loan and a possible chargeable gain
What is a Money Market Fund?
A money market fund is a kind of mutual fund that invests in highly liquid, near-term instruments. These instruments include cash, cash equivalent securities, and high-credit-rating, debt-based securities with a short-term maturity (such as U.S. Treasuries). Money market funds are intended to offer investors high liquidity with a very low level of risk. Money market funds are also called money market mutual funds.
- A money market fund is a type of mutual fund that invests in high-quality, short-term debt instruments, cash, and cash equivalents.
- Though not quite as safe as cash, money market funds are considered extremely low-risk on the investment spectrum.
- A money market fund generates income (taxable or tax-free, depending on its portfolio), but little capital appreciation.
- Money market funds should be used as a place to park money temporarily before investing elsewhere or making an anticipated cash outlay; they are not suitable as long-term investments.
What are money market investments?
Wholesale markets where banks, building societies and governments lend and borrow money from each other. They are considered short-term (less than 1 year) debt instruments that are traded in high volumes and provide low risk.
What are the 3 money market instruments and who issues them?
Treasury Bills - Debt Management Office (DMO)
Commercial Bills - Companies
Certificate of Deposits - Banks
How do the 3 money market instruments pay returns?
Treasury Bills
No interest payments but issued at a discount to their maturity value
Commercial Bills
No interest payments but issued at a discount to their maturity value
Certificate of Deposit
The deposit carries a fixed rate and term
What is the purpose of a money market fund?
Minimum investments in money market instruments are high which makes it difficult for an individual to gain access to the market. However, a fund is a collective investment vehicle that pools together investors’ funds to invest in the money market.
What are the 2 classifications of money market funds with respect to time?
Standard Fund – 6 to 12 months
Short-term Fund – 2 to 4 months
What are the characteristics of fixed interest securities?
Pay a fixed rate of interest, known as the coupon. This is set at issue and is a percentage interest on the nominal value.
A fixed redemption value, known as the par/nominal value.
A fixed redemption date, known as the maturity date. This is set at issue.
What is the difference between non-systematic risk and systematic risk?
Non-systematic risk is a specific risk that occurs as a result of the issuer, it can be eliminated by diversification
Systematic risk is a market risk (interest and inflation rates) that is unavoidable, it cannot be eliminated by diversification
What are the risks of holding fixed interest investments?
Inflation - Erodes the purchasing power of interest
Interest rates - Generally bond prices move in the opposite direction
Credit risk - Issuer may not be able to pay interest or capital at maturity
Currency - Movements in exchange rates affect the value of holding
Liquidity - May be difficult to sell at an acceptable price
What type of correlation is needed for maximum diversification?
Negative correlation
What type of risk does diversification reduce?
It reduces non-systematic/specific risk.
Name 2 asset classes that have a negative correlation
Cash and Property. If interest rates are high the returns on cash deposits become attractive, but property investors will be hit by the increased cost of borrow.
How can non-systematic risk be eliminated?
Through diversification.
What is the income tax relief given on a VCT, EIS and SEIS?
VCT: 30% on first £200,000
EIS: 30% up to £1,000,000 (£2,000,000 for knowledge intensive companies)
SEIS: 50% on first £100,000
How long must an EIS or SEIS be held to qualify for 100% business relief inheritance tax?
2 years
Income tax relief will be withdrawn from an EIS if the shares are not held for how long?
3 years
What is the difference between a hard and soft fact?
A hard fact is a verifiable fact (e.g., name, age salary, marital status)
A soft fact is opinion based (e.g., ethical views, family values)
What is the next step in the advice process after establishing a risk profile?
Formulating the investment strategy for asset allocation. This sets out the proportion of capital to invest in each asset class to generate a portfolio that needs the needs of the client.
When an adviser is selecting funds, what different things should they consider?
Funds objectives
Costs and charges
Management group
Performance of fund manager
Type/ structure (unit trust/ OEIC etc.)
What does alpha look at?
It looks at the difference between the return you would have expected from a security, given its beta, and the return it actually achieved.
What is salary sacrifice?
Where an employee agrees to a reduction in their salary in exchange for a bigger employer contribution.
There must be a written agreement in place, this must be done before salary is actually reduced and the reduction cannot take them below the national minimum wage.
What are the three methods of dividing pension benefits in a divorce settlement?
Offsetting
Earmarking
Sharing
How does pension sharing work upon divorce?
Pension sharing divides the member’s pension rights at the time of divorce, and it must be transferred into the ex-spouse’s name
This provides a clean separation as each spouse has their own pension from this point forward
What inflation protection is in place for the BSP and new State pension?
HINT: triple lock
Both the old and new basis are increased each year by the triple lock
This is the greater of CPI, National Earnings Average or 2.5%
The earnings-related elements of the old regime together with any protected amount of the single tier pension is only
increased by CPI
Can State pensions be deferred?
Yes, under both the old and new regime, individuals can defer their State pension; however, the rules vary depending on
which version of the State pension is being received
Deferral can occur at any point, i.e., before the pension becomes payable if it is not needed or it can be deferred once
in payment; however, it can only ever be deferred once
How do the deferral rules differ for pre and post April 2016 pensions?
HINT: what rate and for how many weeks?
By making the choice to defer your State pension, you will receive an increased pension once it is drawn
For pre April 2016 – pensions will be increased at a rate of 1% for every 5 weeks of deferment
For post April 2016– pensions are increased at a rate of 1% for every 9 weeks of deferment
Another key difference is that a deferred pre April 2016 State pension can be taken as a taxable lump-sum (this is no longer possible)
What situations should be considered during ‘stress testing’ of a client’s cash flow model?
Sudden or permanent loss of assets
The need to increase the income taken from a portfolio
The need for large withdrawals
Future inflation is higher than expected
The pension holder living longer than expected
Investment returns are lower than expected
What is long-term care insurance (LTCI)?
Provides cover towards costs of long-term care in old age
Which transfers are classed as potentially exempt transfers (PETs), and what is the IHT treatment?
If an individual makes a lifetime gift to another individual or to an absolute/bare trust or a disabled person’s trust, this is a PET
Free from IHT if the donor survives 7 years from making the gift, otherwise there is a charge of 40% if its value exceeds the available NRB – the recipient pays tax liability
What is a chargeable lifetime transfer (CLT), and what is the IHT treatment?
If an individual makes a lifetime gift to a discretionary or interest in possession trust, this is a CLT
Tax is charged at the lifetime rate of 20% when gift is made if it exceeds the available NRB. On death of the donor within 7 years, further tax might be due
What are the main income-related State benefits?
Income Support
Jobseeker’s Allowance (JSA)
Statutory Sick Pay (SSP)
Employment and Support Allowance (ESA)
What is the main benefit for people responsible for a child under the age of 16?
Child Benefit
Payable if responsible for a child under 16 or under 20 in approved education/training.
What are the characteristics of Child Benefits?
It is non-contributory, is not means-tested and is tax free
A new claim can be back-dated 3 months
Entitlement to Child Benefit is not affected by any other benefits received by the claimant
What is the high-income child benefit charge?
If a claimant or their partner has an adjusted net income in excess of £50,000, there is a tax charge of 1% of the amount of Child Benefit for every £100 in excess of £50,000.
Therefore, if adjusted net income exceeds £60,000 the charge wipes out the benefits.
What is the difference between whole of life assurance and term assurance?
Whole of life policies pay out a lump sum on death whenever that occurs, whereas term assurance pays out a lump sum on death only if death occurs during the term of the policy
Outline a unit-linked WoL policy and the 3 types of cover possible
Unit linked policies combine life cover and investment
Maximum cover plan – premium guaranteed for initial term then reviewed upwards in line with age
Standard cover – premium set so that it does not need to increase
Guaranteed cover (non-profit) – no investment element, guaranteed level of cover for guaranteed premium, may have surrender value
What is the difference between increasing and decreasing term assurance?
Increasing term assurance - the sum assured increases during the policy term by either a fixed amount or in-line with inflation
Decreasing term assurance – sum assured falls each year in pre-determined way to £0
Give 3 examples of decreasing term assurance
Mortgage protection assurance – s/a decreases each year in-line with outstanding mortgage value
Family income benefit (FIB) – s/a is expressed as amount payable each year to the family, from death until policy ends
Gift inter vivos– s/a decreased in-line with IHT payable on a potentially exempt transfer (PET)
What is a Term 100 policy?
A type of term assurance policy written to age 100, can be used as alternative to a WoL policy
Often a cheaper alternative, however, must consider the possibility of surviving past 100
What is convertible term assurance?
A term assurance policy can be converted to a WoL policy at any point during the term without the need for further medical evidence
What is a relevant life policy (RLP)?
A type of term assurance bought by employers to pay out death in service benefits to employees’ dependents
RLPs don’t form part of employee’s annual or lifetime pension allowance
What is a joint life second death assurance policy?
Where life cover is provided for both parties, but is used where a lump sum is only needed on death of the second person (e.g., for an IHT liability that may arise on the second death)
When first spouse/CP dies the policy simply continues
Write under trust to avoid IHT
What are the advantages of writing a life policy in trust?
Do not have to wait for probate
Proceeds may not be subject to IHT (in addition, premiums likely to fall into an IHT exemption)
Benefits of the policy are distributed as per wishes of settlor without need of a will
Better protection against creditors if settlor becomes bankrupt
Outline an absolute/bare trust
The beneficiary has an absolute right to the income and capital held in trust and the trustees have no discretion in the handling of trust assets
Beneficiaries are stated upfront and cannot be changed
Gifts into absolute trusts are PETs
Outline an interest in possession trust
The settlor specifies a list of beneficiaries/ potential beneficiaries and nominates one or more of them to have an interest in possession
If no other action is taken, these beneficiaries will receive the trust proceeds
Gifts into interest in possession trusts are CLTs
Outline a discretionary trust
Where trustees have the power of appointment to choose beneficiaries from a class/es of potential beneficiaries
Gifts into discretionary trusts are CLTs
What can be used if a life policy contains CIC, but the owner wants the policy in trust?
If a life policy contains CIC, a split trust could be used
This enables the settlor to benefit from CIC payment, but any life payment will be administered to beneficiaries via the trust
What details are usually included in an application needed for medical underwriting?
Personal details including age
Current state of health
Medical history
Occupation and any hazardous pursuits
Lifestyle
What is moratorium underwriting?
Short term policies may apply moratorium basis instead of full medical underwriting
This excludes pre-existing medical conditions during past 5 years for 2 years
What is a terminal illness benefit (TIB) and what types of policies is it added to?
An additional benefit added to term or WoL policies
Pays out when life assured diagnosed with terminal illness and has a life expectancy of less than 12 months
Not available as a separate policy and is not paid in addition to sum assured
What is meant by assignment of a life policy?
The transfer of ownership from one person to another
Assignments can be temporary or permanent
Types include: absolute (sale or gift), mortgage, bankruptcy and to trustees
What is the difference between a joint tenancy and a tenancy in common?
Under a joint tenancy, if one of the joint tenants dies, their interest passes automatically to the surviving tenant
Under a tenancy in common arrangement, the death of a tenant results in their share passing to their estate and can therefore be distributed as per their will
When does the 36% rate of IHT apply?
If the deceased bequests at least 10% of their net estate to a registered charity
Net estate = taxable estate after deducting NRB but before taking charity donation into account
What exemptions are available for IHT purposes?
Transfers between legal spouses/civil partners
Gifts to charities
Gifts in consideration of marriage
Annual exemption of £3,000
Small gift exemption of £250
Gifts out of normal expenditure
When does lifetime IHT become payable on a CLT and who pays the tax?
Tax may be immediately payable on a CLT if the total of CLTs in a 7-year period exceeds the current NRB. Donor or recipient can pay the tax:
Recipient pays – charge 20% on excess of NRB
Donor pays – charge 25% on excess over NRB
What is a deed of variation?
When a person inherits property through a will or intestacy, they can vary the terms of the will or the intestacy by executing a deed of variation –allows beneficiaries to change the distribution of the estate
Must be signed by all parties adversely affected
What can income protection (IP) also be known as?
Permanent health insurance (PHI) – because IP is a permanent policy and does not need renewing each year. The insurer cannot cancel the policy or increase premiums, even if more than one claim is made, as long as premiums are maintained
What is the purpose of IP?
It is a long-term policy that pays out a regular monthly income when the insured is unable to work because of a long-term illness or incapacity
Who can take out an IP policy and when do they typically cease?
An individual can take out policy anytime between 18-60 and they tend to end around planned retirement date
What are the standard deferred periods for an IP policy?
Most common deferred period are 4,13,26,52 weeks
Typically plans with a shorter deferred period are more expensive
What is the typical benefit level of IP as a percentage of ‘pre-claim’ income?
Usually 50-60% for individual policies
Up to 75% for group policies
How does a ‘back to day one’ IP policy work?
The policy does not pay a benefit until a specified period, e.g., 2 weeks of continuous sickness, has elapsed, but when the policy does pay out it is backdated to the first day of illness
Generally used by self-employed
What are the 3 typical definitions of incapacity used by insurers?
Own occupation – policy pays out if individual can’t perform their current role
Suited occupation – policy pays out if individual can’t perform a similar role
Any occupation – policy pays out if individual can’t perform any role/occupation
Some insurers include a rehabilitation or proportionate benefit clause in their policies, what does mean?
Rehabilitation benefit – proportionately reduced benefit that aims to make up the difference due to less hours or different job
Proportionate benefit – similar to above but provides reduced benefit equivalent to reduction in earnings compared to 12 months prior to incapacity
Why might an individual want an increasable IP policy?
To offset inflation risk
What does a waiver of premiums (WOP) allow the insured to do?
It covers the payment of premiums
If the policyholder of an IP plan suffers an accident or becomes ill and as a result is not working – the insurance company waives the premiums at the level, they were being paid
Why is a group IP benefit usually limited to around 75% of earnings?
To encourage the claimant to return to work speedily
What is the underwriter of IP policies mainly concerned with?
Concerned with morbidity – as they are looking at the chances of being too ill to work as opposed to the chances of dying
Chances of becoming ill significantly higher than the chance of dying
Name the main factors that affect premium rates?
Age
Health
Smoking status
Occupation
Hobbies/ pursuits
Deferred period
What are the 4 occupation classes that rates can be based on for IP?
Class 1 – managerial, executive, administrative and professional workers
Class 2 – shop workers, skilled light manual workers in non-hazardous jobs, catering
Class 3 – skilled workers in non-hazardous manual jobs
Class 4 – skilled workers in hazardous jobs
Which premiums tend to be more expensive – guaranteed or reviewable?
Guaranteed – premiums remain constant throughout life of contract
Reviewable – insurer increases premiums based on the insurer’s claim history
Guaranteed premiums tend to be significantly higher (certain policyholders like the certainty set premiums)
Why does group IP usually have a deferral period of 26 weeks?
To match the Statutory Sick Pay Period of 28 weeks
What is critical illness cover (CIC)?
CIC pays a lump sum on diagnosis of a number of specified illnesses, e.g., heart attack
What is the purpose of the ABI Guide to Minimum Standards for Critical Illness Cover?
Sets out standards that insurers must adopt in order for policies to be listed as CIC. Standards include: a common format for the way CIC is described to buyers, use of common generic terms and the use of model wordings
NB. The previous ABI Statement of Best Practice on Critical Illness included a list of core conditions the policies should cover
What is an ‘accelerated payment’ under a combined life and CIC policy?
If CIC is added to a life assurance contract and the individual claims under the CIC policy, it is effectively an accelerated death payment during the lifetime of the individual, instead of the sum assured on death
What type of trust is suited to a combined CIC and life assurance policy?
Split trust
This allows the policyholder to receive any CIC benefit, while the life assurance cover benefit is payable to the beneficiaries
What is the typical survival period for a CIC policy?
14-30 days
CIC policies often come with children cover, what does this mean?
Provides an additional sum assured payable on the diagnosis of a critical illness in the child of the policyholder (subject to survival period)
It is underwriting-free and normally pays out either a set amount or percentage of the sum assured
Outline the life cover buy-back option of a CIC and life assurance policy?
Usually once the policyholder suffers a critical illness the policy pays out and the plan ceases; however, they could have an even greater need for life cover
Buy-back options allow a restricted amount of life cover to be taken out without further medical underwriting
Outline a total permanent disability option of a CIC policy?
Acts as a ‘catch-all’
Although the condition the claimant has is not specified in the policy conditions, the standard of the insured’s life is so poor that they are not able to live a ‘normal life’ again and so the policy pays out
Name 5 of the most commonly covered critical illnesses
Cancer
Kidney failure
Heart attacks
Stroke
Loss of limbs
Major organ transplant
Multiple sclerosis
What is a CIC underwriter concerned with?
Morbidity is primary factor along with medical history and family history
Expenses and investment are less important
When must a CIC claim be submitted and who is responsible for ‘proving’ the claim?
The onus is on the policyholder to prove the claim they should inform the life office ASAP after falling ill
What typically requires more underwiring – an individual plan or a group plan?
Individual policies
For many people, why might IP be a higher priority than CIC?
Typically, IP covers more conditions and replaces the claimant’s income which they are heavily reliant on
How does severity-based cover work for a CIC policy?
A type of plan that normally covers many more illnesses. Pays out a proportion of the sum assured on diagnosis and then adds additional payments when/if the illness progresses
Becoming increasingly common due to advancements in healthcare and medicine
What is personal accident and sickness insurance (PAS)?
A policy that pays out to replace earnings if policyholder is unable to work due to sickness or an accident. It is a basic form of insurance and most contracts are annual (or shorter)
Available as a standalone policy or as a bolt-on
What are the common areas that PAS policies cover?
Death
Permanent disablement
Loss of an eye
Loss of a leg, foot or toe
Loss of an arm, hand, finger or thumb
PAS policies usually have which 2 additional benefits?
Medical expenses
Weekly sickness benefit
Private medical insurance (PMI) is largely aimed at what type of conditions?
Acute conditions – those that occur rapidly and it’s usually possible to cure in a relatively short time
Why might a customer choose a comprehensive plan over a budget plan?
Comprehensive plans usually have a longer claim period, with higher limits and often a wider choice of hospitals
Extras such as home nursing and private ambulances are included
Why does PMI not usually cover chronic long-term illnesses?
They are long-lasting and usually not curable so therefore treatment might not be right, instead long-term care insurance might be more appropriate
If a PMI policy is written on a moratorium basis, what does this mean?
Instead of fully underwriting the policy, a moratorium basis can be used. Meaning that medical conditions the customer has suffered during the previous 5 years before the start of the policy are excluded for a period of 2 years
What are the 3 main types of PMI plans?
Basic plans
Standard plans
Comprehensive plans
What is the typical deferral period and benefit payment period under MPPI?
Provides a monthly benefit to maintain mortgage payments for up to 12, 18 or 24 months (either linked to mortgage payments, percentage of salary or fixed amount)
Deferred period is typically 30-60 days
What is another common name for accident, sickness and unemployment (ASU) insurance?
Short term income protection (STIP)
What are the similarities and differences between MPPI and ASU?
Similarities: benefits paid for a maximum of 2 years, also a similar deferred period of 30-60 days and have similar exclusions
Differences: the insured benefit is not limited to mortgage payments and a possibility of lump sum benefit for events such as loss of sight
What is the purpose of protection planning and what is often the starting point for advisers?
Main aim of protection planning is to provide sufficient income to cover client’s needs in the event of death, disability, involuntary unemployment
Create a cash flow statement to provide the basis of what expenditure is required to support the income once held of the insured
Why is a client’s level of capital resources important in protection planning?
It might affect their eligibility for means-tested State benefits
Value and liquidity of capital is important in order to make sure it’s enough/feasible to be used for protection purposes
Why might PMI be a high priority for many individuals?
Allows clients to receive treatment when they need/want it, rather than waiting for treatment under the NHS
Additional benefits such as private hospitals, ambulances and medical centres
Clients who travel overseas regularly
How a Pension Sharing Order works
The trustees of the member’s pension arrangement are responsible for implementing a pension sharing order, although in practice this duty will usually fall to the scheme administrator.
In order to implement a pension sharing order the administrator may require information from the trustees of the pension arrangement, the member and the member’s ex-spouse/civil partner as well as the court.
Following implementation of the order the member’s ex-spouse/civil partner will receive a pension credit which may be held within the existing pension arrangement or transferred to another pension arrangement. The member’s pension receives a corresponding pension debit.
Pension Sharing process
Both parties to the divorce are required to get valuations of their pension benefits. These are then used to agree whether a split is needed and if so, what that split will be. This information is required before the divorce hearing. It is important that the scheme/provider is made aware that the information is required for a divorce.
It’s worth noting and making your client aware that as the split is a percentage of the value of the plan, the amount is not guaranteed. This is because the unit price of the funds will change between the original valuation to agree the split and when the benefits are actually shared after the divorce is finalised the figure will change. This is not a mistake. The rules in Scotland are different as it is monetary amount that is agreed and not a percentage.
The pension sharing order may be implemented on any day, chosen by the trustees, within what’s known as the implementation period. The implementation period runs for 4 months from the date of the pension sharing order or the date the trustees have all the information they need if later. The scheme administrator chooses the valuation date within the implementation period on which to calculate the actual share of the pension rights. The benefits must then be transferred before the end of the implementation period.
What are the six steps of the financial planning process as described by ISO 22222?
1 - Establish and define the client and personal financial planner relationship.
2 - Gather client data and determine goals and expectations.
3 - Analyse and evaluate the client’s financial status.
4 - Develop and present the financial plan.
5 - Implement the financial planning recommendations.
6 - Monitor the financial plan and the financial planning relationship.
Who would typically be considered a vulnerable customer?
HINT: 3 categories.
On account of:
- age,
- state of health or mind,
- recently bereaved.
How long should records of life and pension policies be held for?
Life assurance and pensions - keep records for 5 years.
Client’s objectives should follow the acronym SMART; what does SMART stand for?
- Specific
- Measurable
- Action-related
- Realistic
- Time-related
Wills, Gifts and Trusts
- Wills - important for clients to understand effects of dying intestate
- On intestacy - children in family entitled to their share at age 18
- Ensure will is up to date and reflects client’s wishes
- Gifts and loans – lifetime gifts will either be exempt (no tax at all), potentially exempt – PET- no lifetime tax, taxed if die within 7 years and value over NRB, taper available after 3 years - or chargeable - CLT – lifetime tax at 20% if over NRB, then 40% (less 20% already paid) due on death within 7 years and value over NRB, taper available after 3 years, loans repayable on death
- Nil rate band is £325,000 2021/22 - transferable between spouses/civil partners
- Residence nil rate band where residential property left to direct descendants £175,000 2021/22 – this is also transferable if it is unused in full or in part of 1st death of spouse/civil partner, tapered if net value of estate over £2m by £1 for every £2 excess
- Both expected to remain the same until the end of 2025/26 tax year
- Trusts - note if client is settlor, trustee, or beneficiary of a trust
- Desirable to have copy of trust deed
- Types of trust: bare trust, interest in possession, discretionary, trusts for vulnerable beneficiaries
- Include details of any Power of Attorney, Enduring Power of Attorney or Lasting Power of Attorney
Analysis of Investments
Consider:
- Any mismatch between client’s risk profile and existing investments
- Any excess of investments in one asset class, market or provider
- Charges
- Objectives
- Any With Profit issues
- Investment risk issues - identify:
o 3 to 5-year volatility on each investment
o Volatility for whole portfolio versus client’s attitude to risk
o Drawdown per investment i.e., maximum % loss over period of ownership
o Asset class, economic sector and market % breakdown
o Assessment of probability of client meeting investment targets
Financial Protection Summary
- List immediate and potential dependants covered
- For each plan list who is covered (immediate or potential dependants)
- Calculate financial loss expected on death/incapacity
- Calculate length of time support required
- Determine possible future dependant’s needs e.g., school funding or assistance with house purchase
- Existing liabilities e.g., mortgage should be covered by life and health insurance
- Compare existing cover to need identified
Tax Position Analysis
- Highlight income and CGT issues
- How much income is subject to higher rate tax - pension opportunities?
- Tax planning:
o Use of marriage allowance
o Spread/transfer ownership
o Appropriateness of tax wrappers
o Potential CGT on switching
o Consider disposing in stages to use more than one CGT annual exempt amount
o Delay until a basic rate taxpayer in retirement
o Child benefit position
IHT Planning and DC Schemes
Death before age 75
Lump sum and income paid tax free if within 2 years
IHT Planning and DC Schemes
Death after age 75
Lump sum and income taxed at recipient’s marginal rate
Financial Protection Planning
Life assurance - base on need not standard calculations
Step 1: Identify need (spouse/children)
Step 2: Quantify level of cover (capital, long and short-term income)
Step 3: Determine period of cover (different for each need)
Step 4: Consider existing policies
Step 5: Recommend appropriate policy/s
Capital needs (in event of death) o Funeral expenses o Emergency fund o Specific bequests o Debts and mortgage o IHT o Aggregate to calculate total lump sum needed
Long-term income needs
o Annual personal living expenses of surviving spouse (deduct costs saved e.g., mortgage)
o Add: additional costs e.g., childcare, replacing employer benefits
o Deduct: continuing long-term net income - survivor’s income
o Deduct: long-term net income e.g., widow’s pension
o Calculate total long-term income needed
Short-term income needs
o Extra short-term income e.g., childcare
o Add: other short-term income
o Calculate total short-term income needed
Term Assurance and Whole of Life
Term fixed sum on death within term, level or decreasing
Whole of life fixed sum on death whenever it occurs, covers funeral expenses, legacies, IHT bill
Consider other factors e.g., inflation, additional benefits for family, flexibility, waiver of premium,
existing cover, timescales, State benefits
Choosing Type and Level of Cover
Term linked to need, e.g., expected financial dependency of child (18 or end of university?)
Full recommendation often too costly - consider the following in order to reduce cost:
o Reduce required income - scale back or look for alternative sources of income
o Could period of cover be shortened?
o Are additional policy features e.g., future increase options really needed?
o Could additional cover be provided through employer under PP rules?
o Could cover be provided as part of a package?
Relevant life policies
o Stand-alone death in service plans
o To benefit from tax advantages must only provide lump sum death benefit payable before 75
to an individual, trust or charity and must not provide any other benefit, have a surrender
value, or be mainly used for tax avoidance
o If these conditions are met, policy does not form part of pension value for lifetime or annual
allowances nor is it taxable benefit in kind, benefits are also free from IHT if paid through
discretionary trust
Prioritising Life Cover
Capital needs are generally high priority - mortgage usually largest
Long-term income
o Consider if essential to maintain same standard of living
o Can surviving spouse work?
o Deduct State benefits
Incapacity and health o How long could family cope with lack of income? o How long do employer benefits last? o Identify level of income provided o Deduct saving and survivor income
Income Protection
Income while unable to work
Covers many illnesses
Based on ability (not inclination) to work
Benefit based on pre-disability earnings
N.B. There may be a case for IP and CIC although compromise (due to cost) may be required
Critical Illness Cover
Benefit not limited to earnings
Restricted list of illnesses
Benefit not dependent on earnings/ability to work
Provides capital lump sum
N.B. There may be a case for IP and CIC although compromise (due to cost) may be required
PMI
Gives clients ability to choose when and where they receive treatment
Employer provision - few tax advantages (premium is fully taxable and subject to Class 1A NICs)
Private provision - level and cost varies considerably, can add spouse and children
Redundancy Protection
State help with mortgage payments for those receiving income related benefits
Support for Mortgage Interest (SMI)
Interest up to £200,000 of mortgage/loan (£100,000 if receiving State pension credit)
Waiting period is 39 weeks after claiming benefits
No waiting time for those on State pension credit
2-year limit for some applicants
Since 6 April 2018, payable as a loan not a benefit
o Repayable with interest on sale of home
Fund Selection
In-house or outsource to discretionary investment management firm - generally based on:
o Strength of investment process
o Continuity of manager
o Proven investment style
o Clearly defined investment objectives
o Strong and consistent past performance record
Income or growth consider tax implications
Active or passive: passive funds becoming increasingly popular as deliver asset allocation at lower
cost and difficult to predict which active managers will outperform
Fund of fund or fund of choice - fund of fund can provide simple, managed solutions/valuable on
smaller portfolios
Fund managements styles
o Absolute return aim for positive returns in all markets, rather than aim to beat a
benchmark
o Bottom-up pick stock based on fundamental analysis (value investing)
o Top-down pick sectors in economy then pick stock within sector
o Sector rotation top-down manager switches sectors/industries based on economic and
technical indicators
Fund charges - ensure client is getting value for money
Fund Recommendations and Risk
Past performance - basis of fund selection may be past performance
Diversification - in 2008/09 all international markets and most asset classes moved together
Investment planning is more of an art than a science and portfolios may not behave as expected
particularly over the short-term
Tax Wrapper Selection
ISA
Initial Input: No relief
Growth: Tax free
Encashment: Tax free
Tax Wrapper Selection
Collectives
Initial Input: No relief
Growth: Income taxable / internal gains tax free
Encashment: CGT on gains
Tax Wrapper Selection
UK life assurance policies
Initial Input: No relief
Growth: Income and internal gains deemed to have been taxed at basic rate
Encashment: No CGT, Qualifying tax-free, Non-qualifying gains subject to higher rates of income tax
Tax Wrapper Selection
Offshore life assurance policies
Initial Input: No relief
Growth: UK tax free, Except withholding tax.
Encashment: No CGT, Full income tax on gains.
Tax Wrapper Selection
Registered pensions
Initial Input: Full relief, subject to limits.
Growth: Tax free
Encashment: 25% tax free, 75% taxable.
Tax Wrapper Selection
EISs
Initial Input: 30% income tax relief, Tax reducer (hold for 3 years) CGT deferral relief available.
Growth: Taxable dividends.
Encashment: CGT free on disposal (after 3 years).
Tax Wrapper Selection
SEISs
Initial Input: 50% income tax relief, Tax reducer (hold for 3 years) CGT reinvestment relief available.
Growth: Taxable dividends.
Encashment: CGT free on disposal (after 3 years).
Tax Wrapper Selection
VCTs
Initial Input: 30% income tax relief, Tax reducer (hold for 5 years).
Growth: Tax free.
Encashment: CGT free on disposal (from outset).
ISA
Provides biggest tax advantage for most investors for cash and fixed interest
Less so now personal savings allowance in place
Also consider IHT disadvantages
£20,000 (2021/22) limit spread across all four (IFISA, cash (including H2B), stocks and shares or
Lifetime)
Help to Buy ISA
o Every £200 saved, government bonus £50 up to max £3,000 on £12,000 savings
o Bonus on home purchase up to £450k in London, £250k elsewhere
o Closed to new savers 30 Nov 2019
o Existing savers can continue to contribute until 1 Dec 2030
Innovative Finance ISA
o Peer to peer ISA, separate to cash/stocks and shares ISA
Lifetime ISA
o Since April 2017, available to under 40s to save for first home/retirement
o Up to £4,000 per year of £20,000 overall limit, £1,000 government bonus
o Withdraw funds for purpose other than house purchase before age 60 generally lose bonus,
interest/growth on bonus plus 5% charge
Junior ISA
o For children not eligible for child trust fund /children wishing to transfer from child trust fund
o At 16, child takes control of account and can decide where to invest
o At 18, becomes adult ISA
o Parental settlement rules don’t apply
Continuing ISA
o On death, ISA becomes continuing account of a deceased investor (continuing ISA)
o No further funds added
o Income and capital continue to accrue tax-free until earlier of estate being administered, ISA
closed, 3 years and one day from death
Additional permitted subscription
o If an ISA holder in a marriage or civil partnership dies their ISA benefits can be passed to their
spouse/civil partner via an additional ISA allowance
o The surviving spouse/civil partner can invest as much into their own ISA as their
spouse/partner used to have in addition to own annual limit
o If higher, the value at the point the deceased’s ISA stopped being a continuing account can
be invested, rather than the value at date of death.
Collectives
Subject to tax on income they generate but free of tax until encashment
Can use CGT annual exempt amount then taxed at 10% or 20%
Most appropriate for growth-oriented investments
Education Funding
2021 average boarding fee in sixth form £12,573 per term
2021 average day school fee in sixth form £5,489 per term
Since 2017 - university fees up to £9,250 a year in England
Can be financed by loans
Loan is repaid at annual rate of 9% of the former student’s income that is over £27,295 a year
Undergraduate education - affluent parents have bought property for student/s to live in
Support now available for Masters and PHDs in form of loans, also need to consider loss of
earnings
Lifetime cash-flow projection would identify periods of heavy expenditure e.g., children attending
expensive schools at the same time
Advisable to build up a school fee reserve (emergency fund) to avoid having to withdraw child
from school in event of financial difficulties
Relative advantages and disadvantages of saving through a pension plan or stocks and shares ISA
S&S ISA
No tax relief on contributions
No employer contributions
£20,000 maximum contributions pa
Fund income and growth free from tax
Fund can be accessed at any age, tax free and without penalty
Pension Tax Relief
Tax efficiency varies according to client’s circumstances
Higher rate taxpayers whose pension contributions are funded by their company and would otherwise pay tax at 40% or 45% and NICs on their remuneration will benefit the most
Maximum tax relief is 45% plus 13.8% employer and 2% employee’s NICs
Wills
Ensures assets are given in accordance with client wishes
Provides guardianship for children
Facilitates tax planning
Alternative is intestacy, NB co-habitees do not inherit
o First £270k plus chattels goes to spouse/civil partner
o Remainder split 50:50 surviving spouse/civil partner and children
IHT Mitigation
Discounted gift trust
Features
Cash lump sum gifted into bare (PET) or discretionary (CLT) trust
Invest in investment bond
Fixed payments are made from bond to settlor
5% rule often used
PET/CLT is less than cash gifted as discount given to reflect the fact some of the funds come back to the settlor
Medical underwriting required
Settlor should spend returned funds
Pros Effective for IHT Regular income Neither GWR nor POAT apply Discount If value under available NRB, no IHT charges (immediate, periodic, exit) for discretionary trust
Cons
Inflexible income
5% runs out after 20 years
Bond CGT inefficient
IHT Mitigation
Loan trust
Features
Settlor creates trust
Makes interest-free cash loan to trust
Trustees buy investment bond
Capital remains in estate (loans repayable on demand / death)
5% rule can be used to make loan repayments
Or lump sums can be taken
IHT charges (immediate, periodic, exit) are after deduction of loan
No exit charge on loan repayments
Pros
Growth outside of estate straight away
Full access to capital
‘Income stream’
Cons Capital remains in estate 5% runs out after 20 years Should spend returned funds No immediate benefit Trustees should ensure trust always has enough to repay the loan
IHT Mitigation (continued)
Business relief - if transferred as lifetime gift or on death at least 2 years after acquisition then 100% relief and free from IHT
Life assurance: written in trust to cover potential IHT liability
o Ensures funds are available to pay IHT on lifetime gifts (if death occurs within 7 years)
o Provides cash to pay IHT on death
o Able to use annual/normal expenditure exemption
Drawback is that regular commitment is needed thus reducing spendable income
Trusts
Advantages
- Beneficiaries cannot access without trustee agreement
- Tax planning flexibility e.g., skipping a generation
- Can hold assets for benefit of a minor
Disadvantages
- Complex
- Expensive to administer
- Can lead to additional income tax, CGT and IHT
Discounted Gift Trust (DGT)
- An agreed lump sum of capital that the client is willing to lose access to is placed into the Trust.
- The Trust then invests the funds received into a single premium life assurance Investment Bond.
- A level of regular income withdrawals is taken, to meet income needs agreed upon.
- The lump sum is notionally split into two parts following underwriting.
- The discounted element based upon the level of likely income the client will receive back during their lifetime is removed from the estate for IHT immediately.
- This will be based on client’s age, health and level of income taken.
- If the client is in good health, the discount should be significant.
- The balance will be treated as either a CLT if Discretionary Trust or PET if a Bare Trust is used and then this sum will also become exempt from IHT after 7 years.
Loan Trust
- It’s a loan so not a gift.
- Basically lump sum into trust with settlor as trustee and whoever else.
- Invested into an Investment Bond.
- Can take capital lump sums when they want and use the 5% deferred Bond allowance.
- Loan remains inside estate for IHT as it’s not a gift but any growth is outside of it.
- Only really effective for IHT if the client spends the loan repayments/capital lump sums/5% deferred allowance.
- So the idea is you spend the capital over time to get it out of your estate whilst having the investment growth outside of your estate.
- Flexible as client can have all the loan back any time if they wish whereas with a DGT you can’t change the levels of income and therefore can’t have access to the capital via ad hoc lump sums.
How to treat a Vulnerable Client
- Provide additional opportunities for the client to ask questions about the discussions held and information provided.
- Continuously seek confirmation that the client has understood the discussions held and information provided.
- Offer the client the opportunity to have a family member or friend present during the meetings and discussions.
- Offer the client the opportunity to complete any paperwork, or agree to a transaction, after a period of further consideration.
- If for any reason it is felt that the client does not understand the options or service being offered, then the transaction should not be proceeded with at that time.
Protection Fact Finding (Jenny)
- What is her budget in this area?
- What age will Sasha be financially independent?
- Are there any other assets that can be used?
- Does she wish to earmark any assets for her protection needs?
- Is she expecting any inheritances?
- Have the appropriate nomination forms been completed for her pension?
- Smoker status/hazardous pursuits/health issues?
- Views on inflation?
- Does she have a Will or LPA in place?
