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RO3 - Personal Taxation > Section 10 - Indirect Investments > Flashcards

Section 10 - Indirect Investments Flashcards

1
Q

Tax Wrappers

A

Three main stages to consider:
- How the initial investment is treated
- How the funds are taxed within the wrapper
- How the proceeds are taxed on the investor

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2
Q

Individual Savings Account (ISA)

A

Income and capital gains free of tax (no need to declare on tax return)

Encashment free of income tax and CGT

Advantage more pronounced on income producing funds for higher/additional rate taxpayers

Tax privileged open-ended plans with tax year-based investment limits

Types:
- Cash 16+
- Stocks & Shares 18+– including collectives
- Innovative finance 18+ – peer to peer loans and crowd bonds
- Help to Buy ISA – existing customers only
- Lifetime ISA – age 18-39 at outset, £4,000 limit, first home / retirement
- Junior ISA – cash, stocks and shares

Eligibility - UK Resident (or a non-resident Crown employee working overseas and subject to UK tax on earnings - but not their spouse)

Individual basis

Can invest in Cash ISA, IFISA and Stocks and Shares ISA during tax year/subject to overall limit of £20,000. Up to £4,000 of £20,000 limit can go into Lifetime ISA.

Can withdraw cash from ISA and replace in the same tax year without it counting towards subscription limit (if provider allows flexibility)

Can only invest with one provider at a time for each type of ISA during the tax year

Junior ISA - available for children born after 02/01/11 - annual limit is £9,000

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3
Q

ISA Transfers

A

Can now transfer between all types of ISAs

Can transfer previous years ISA without affecting current year’s allowance

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4
Q

ISAs on death

A

On death, ISA becomes continuing ISA of deceased
- No further funds added
- Income/gains tax-free until earlier of estate being administered, continuing ISA being closed or 3 years and one day from death

If an ISA holder in a marriage or civil partnership dies:
- ISA benefits can be passed to spouse/civil partner via an additional ISA allowance (APS).
- The surviving spouse/civil partner can invest as much as their spouse/partner used to have, in addition to their own annual ISA limit
–The actual amount is the higher of the value of the continuing ISA on death or on the date when the ISA wrapped investments were passed on

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5
Q

Child Trust Funds (CTF)

A

Children born 31/08/02 - 01/01/11 entitled to CTF

Initial voucher £250 (£50 from 31/07/10)

Further £9,000 contributions per annum permitted till age 18 (cannot carry forward)

Can transfer to Junior ISA

Children born after 02/01/11 not entitled to CTF

First CTFs matured in Sept 2020 – can roll into adult ISA without affecting subscription limit

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6
Q

Types of CTF

A

Savings account

Accounts that invest in shares

Stakeholder accounts

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7
Q

CTF and Tax

A

Free on income tax and CGT

Exempt from rule of taxing parent on investment income in excess of £100

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8
Q

Planning issues re JISA / CTF

A

Compare charges / returns / interest rates

Money is usually locked in until 18, then belongs to child to do with as they wish

If parents want control of funds, need to use a different investment / trust wrapper

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9
Q

UK Collectives

A

Investment trusts, unit trusts and Open-Ended Investment Companies (OEICs)

Allows participation in large portfolio of shares with other investors

Purchase units in unit trust and shares in OEIC

Different types of funds

Unit trusts and OEICs are open ended (investment trusts are closed ended)

Charges - normally initial charge and AMC

Dividends paid gross, after dividend allowance, taxed at 8.75%, 33.75%, 39.35%

Interest distributions paid gross, after personal savings allowance, taxed at 20%, 40% and 45%

Gains on disposal liable for CGT (losses allowable) after annual exempt amount, taxed at 10% and 20%

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10
Q

Offshore Collectives

A

Offshore funds generally set up in countries with little/no local taxation e.g., Channel Islands

IHT planning – excluded property for non-UK doms

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11
Q

Reporting Funds

A

Status granted if fund reports full details of income to HMRC

Investors told of their share of fund’s income to allow reporting on self-assessment

No requirement for fund to distribute income

UK investors subject to income tax on share of fund’s income (regardless of whether it is distributed)

Profit on encashment liable to CGT

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12
Q

Non-Reporting Funds

A

Any fund that hasn’t obtained reporting fund status

Income normally accumulated/no tax on income as it arises

Gains on disposal (including death) calculated on CGT principles

Taxed in year of encashment

Any accumulated income makes up part of the gain

However, liable to income tax (so cannot use CGT annual exempt amount)

Planning – those who pay tax at higher rates can delay encashment until non or basic rate taxpayer or non-resident

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13
Q

Reporting Fund vs Non-Reporting Fund

A

Reporting Fund Advantages:
- Normal rates of tax on dividends/can use dividend allowance
- CGT rates on encashment
- Use of annual exempt amount

Non-Reporting Fund Advantages:
- Accumulate income in low tax environment
- Roll up income/take profit when lower taxpayer
- If non-UK resident income/gains are tax-free
- Non-UK-domicile - income and gains not remitted to UK so no UK tax liability
- Excluded property for non-UK- domiciles so no IHT

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14
Q

Offshore Funds and Tax

A

Offshore equity funds - dividends normally subject to withholding tax (non- reclaimable)

Fixed interest - Eurobonds and exempt gilts pay income gross

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15
Q

Special Purpose Vehicles

A

Usually limited partnership or exempt UK unit trust/investment trust set up to finance specific projects

Allows investments to be made from SIPP, SSAS and registered charities

Income used to service debt so only offer capital growth

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16
Q

Shares in Listed Property Companies

A

More liquid than investing directly in property

Investment is diversified over a number of properties

Property shares move more rapidly than property market

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17
Q

Real Estate Investment Trusts (REITs)

A

Investment companies that enable investors to put money into residential and commercial property markets by investing in them

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18
Q

REIT Conditions

A

Must be UK tax resident

Closed ended company

Listed on recognised stock exchange (including AIM)

At least 75% of company’ s gross profits have to originate from property letting (to qualify for exemption from corporation tax)

Interest on borrowing must be 125% covered by rental profits

Gains from property development taxed unless held for 3 years from completion

At least 90% of rental profits must be paid out as dividends

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19
Q

REIT Distributions

A

Tax-exempt element - classed as property income and taxed at 20%

Non-exempt element - dividend payment paid gross

REIT gains subject to CGT in normal way

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20
Q

Insurance Company Property Funds

A

Value of units linked directly to underlying properties

No gearing

Higher liquidity than direct property investment, but notice periods can apply

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21
Q

Property Unit Trusts, OEICs and Investment Companies

A

FCA authorised property funds permitted within ISAs

Similar to life assurance property funds but more tax efficient

Property security funds; invest in property companies and REITs (UK and overseas)

22
Q

Enterprise Investment Scheme (EIS)

A

30% tax relief on qualifying investments up to £1m in a tax year (£2m providing amount in excess of £1m invested in knowledge-intensive companies)

Disposals exempt from CGT if held for 3 years

Investors cannot be connected with company when subscribing

Investors need not be UK resident (but must be liable to UK income tax)

No pre-arranged exit strategy

Qualifying companies:
- Gross assets not exceeding £15m prior to investment (£16m after)
- Qualifying trade
- Permanent establishment in UK although no need to trade in or be resident in UK
- Unlisted when EIS shares issued
- Fewer than 250 full time employees (500 for knowledge-intensive firms)
- No more than £5m raised under EIS (£10m for knowledge-intensive firms)

Excluded qualifying trades include:
- Dealing in land, commodities, futures, shares or securities
- Banking and insurance
- Property development
- Legal or accountancy services
- Forestry and timber production
- Companies benefiting from renewables obligation certificates (ROCs)
- and/or the renewable heat incentive (RHI)

Withdrawal of relief:
- If shares disposed of within 3 years
- If company ceases to be qualifying

CGT deferral:
- Defer CGT by reinvesting gain into shares that qualify under EIS
- Maximum potential tax relief 58% (30% income tax and up to 28% CGT)

Tax planning:
- High risk, illiquid
- Can offset losses against income tax or CGT

23
Q

Seed Enterprise Investment Scheme (SEIS)

A

Runs alongside EIS but targeting smaller start-ups

Income tax relief at 50% of up to £100,000.

Trading for less than 2 years with gross assets of less than £200,000

Fewer than 25 full-time employees

Exemption from CGT limited to one half of investment

Maximum tax relief is 64% (50% income tax and 28% CGT exemption on 50% of a reinvested gain)

24
Q

Venture Capital Trusts (VCTs)

A

Must invest in unlisted trading companies

30% income tax relief on investments up to £200,000 per tax year

Dividends from VCTs up to £200,000 per tax year are tax free

CGT exempt on disposal of VCT shares but cannot use to defer CGT gains

Income tax relief withdrawn if shares disposed of within 5 years

Risk spread somewhat as invest in range of small companies, but still high risk and illiquid as an investment

Qualifying companies:
- Not a close company
- Must be listed on stock exchange
- Income derived wholly/mainly from shares or securities
- 80% of investment by value in qualifying unlisted trading companies
- No more than 15% in one company
- At least 10% of qualifying holdings in new ordinary shares
- At least 70% of investments by value in qualifying holdings must be in new ordinary shares

Qualifying conditions:
- Less than 250 employees (500 for knowledge-intensive firms)
- Less than £15m of gross assets before investment and £16m after investment
- Annual amount which may be invested in one company is £5m (£10m for knowledge-intensive firms)

New rules which affect EIS, SEIS and VCTs came into effect late 2015:
- Investors not permitted to invest in firms over 7 years or more after their first commercial sale took place (10 years + for knowledge intensive firms (KIFs)) unless the investment represents more than 50% average turnover for previous 5 years
– KIFs can chose whether to use current test of date of first commercial sale or point at which turnover reached £200k to determine when 10-year period (EIS) / 7-year period (VCT) began
- Cap on investment into a firm from EISs/SEISs and VCTs of £12m (£20m KIFs)
- EISs and VCTs not able to fund buyouts including management buy-outs to VCT funds raised prior to 2012 and VCT non-qualifying holdings

25
Q

Social enterprises

A

Social investment tax relief (SITR)

Similar to EIS

30% income tax relief on investment up to £1,000,000 per tax year

Can be carried back to previous tax year

Investment can be in debt or equities

CGT deferral available

Disposal exempt from CGT

Eligible organisations must have a defined and regulated social purpose, have fewer than 250 employees and gross assets of no more than £15m

26
Q

UK Life Assurance Policies

A

Qualifying life policies - life policies with regular level premiums payable at least annually for at least 10 years/£3,600 annual premium limit

Non-qualifying policies - single premium investments

27
Q

UK Life Assurance Policies - Taxation

A

Life Company Taxation:
- No tax on dividend income
- 20% tax on rental, interest, offshore income
- Gains taxed at 20% (indexation relief up to December 2017 only)
- Paid by life office
- Cannot be reclaimed by policyholder, therefore less tax-efficient for many than collectives (especially non-taxpayers)

Policyholder Taxation:
- Income tax on policy profits
- Gains referred to as chargeable gains
- But not subject to CGT

Qualifying policies are more favourable as only gains within first 10 years are taxable

All gains from non-qualifying policies are taxable

28
Q

UK Life Assurance Policies - Chargeable Events

A

Death (if it gives rise to a benefit)

Maturity

Surrender and certain part surrenders

Assignment for money’s worth

Policy loan (if taken out after 26/03/74)

29
Q

UK Life Assurance Policies - Non-Chargeable Events

A

Assignment by way of mortgage

Assignment between spouses (could be useful where one is a higher / additional rate taxpayer and the other isn’t – assign and then surrender

Payment of critical illness

30
Q

Calculating Chargeable Gain

A

Maturity/Surrender:
- Amount paid out (including any capital payments) less premiums paid (including any previous chargeable gains)

Death:
- Surrender value before death (plus any capital payments) less premiums paid (including any previous chargeable events)

Assignment:
- Price received (plus capital payments) less premiums paid (including previous chargeable gains)

If assignment is between connected persons, then market value used

31
Q

Part Surrenders

A

Includes bonus encashment or loans

Chargeable if exceed certain limit

Total part surrenders considered per policy loan (not individual part surrenders)

Chargeable event only if reckonable aggregate value exceeds allowable aggregate value

5% withdrawal allowed without chargeable event

Able to carry forward unused 5% allowance

Any 5% taken brought back into calculation on final encashment

Allows higher and additional rate taxpayers regular ‘income’ without immediate charge to tax, even more tax efficient if basic rate taxpayer on final encashment

32
Q

Tax on Part Surrenders

A

If surrenders exceed allowance, then chargeable event and excess is chargeable gain

Occurs at end of policy year

Individual owning policy at time of chargeable event is liable

If tax charge excessive, can approach HMRC

33
Q

Termination of Policy

A

Terminated by death, maturity or full surrender

34
Q

Taxation of Gain

A

Falls fully in basic rate – no tax due

Falls fully in higher- 20% of gain, though may be reduced by PSA

Falls fully in higher – 25% of gain

If straddles tax band, use top-slicing relief to spread gain over policy years using 5- step process

5-step process:

Step 1: Calculate investor’s taxable income (to establish how much of gain falls into starting rate, personal savings allowance, basic rate, higher rate, additional rate) – ignore gift aid donations

Step 2: Calculate tax due on gain across each tax band and deduct 20% basic rate tax to show total liability

Step 3: Calculate annual equivalent of gain which is the gain divided by N, where N is:
- Onshore policies, full surrender: divide gain by full number of policy years since outset
- Onshore policies, partial surrender: divide gain by full number of policy years since last chargeable event
-Offshore policies (pre-6 April 2013): divide gain by full number of policy years since outset
- Offshore policies (6 April 2013 onwards):
– If UK resident whole time: divide gain by full number of policy years since last chargeable event
– If not UK resident whole time: divide gain by number of full policy years since outset and make reduction for years of non-residence

Step 4: Calculate tax due on annual equivalent and deduct 20% to give relieved liability

Step 5: Deduct relieved liability from step 2 to give top-slicing relief

35
Q

Administering Tax

A

Life office issues certificate to policyholder on chargeable event

Certificate enables completion of self-assessment

36
Q

Chargeable Gains Under Trust (Where UK Resident Settlor/Trustees)

A

Taxation of gain depends on residence of trust creator and trustees

If person who created trust is alive and UK resident before chargeable event, then gain treated as part of income, top-slicing available, can reclaim tax from trustees

If person who created trust was dead or non-UK resident before chargeable event and one or more trustee UK resident, then trustees liable (45% trust rate so 25% liability onshore bond with 20% tax credit, 45% offshore bond no tax credit)

If trustees not UK resident, any beneficiary receiving a benefit under the trust from the gain is liable

Possible to avoid trust’s liability - replace UK trustees with foreign trustees prior to chargeable event - beneficiaries then liable at own rates, but no top slicing and no reclaim of tax credit on UK policy

Alternatively, assign policy to beneficiary before chargeable event, beneficiary can then encash and tax is chargeable at their rates with top-slicing relief

Assignment of a policy is not a chargeable event

Bare/Absolute trust for minors - beneficiary liable to income tax on gains arising from policies held in trust

Settlements legislation - if either or both of child’s parents are settlors of bare trust then potentially liable to income tax on gains from a life assurance policy

37
Q

Time apportionment relief

A

Gain reduced by no. days policyholder non-UK resident divided by no. days policy run

Example, if non-resident 3 / 10 years, gain reduced by 30%

38
Q

Traded Endowment Policies (TEPs)

A

Policies can be traded on open market as second-hand policies

No tax if qualifying policy traded after 10 years

39
Q

Offshore Life Assurance Policies

A

Gross roll-up - usually established in low tax countries so investment rolls up free of tax

May be withholding tax (non-reclaimable)

Policyholder liable to income tax at highest rate on whole of gain

PSA available

Time apportionment relief for periods of non-UK residency

Number of years for top slicing reduced for periods of non-residency

40
Q

Returning Ex-Pats

A

Consider encashing policy whilst still non-UK resident

41
Q

Onshore v Offshore Life Assurance Policies

A

Onshore:
- Higher rate taxpayers - 20% on net return of fund
- Additional rate taxpayers - 25% on net return of fund

Offshore:
- Higher rate taxpayers - 40% on gross return of fund
- Additional rate taxpayers - 45% on gross return of fund

Tax representatives - appointed by offshore life offices/responsible for issuing chargeable gain certificates

42
Q

Overseas Life Assurance Business (OLAB)

A

Of a UK life office only taxed on profits made on writing overseas business

Not taxed on income and gains from investment in OLAB funds

OLAB - only with non-UK residents

OLAB policies not qualifying - treated as offshore life policies

43
Q

Personal Portfolio Bonds

A

Personal portfolio bonds unattractive for UK investors

Penal tax which effectively taxes policyholder as if investments yielding 15% compound

44
Q

Friendly Society Policies

A

Able to sell exempt policies

Qualifying policies with limited premiums

Funds are free of UK tax

Limits - £270pa/£25pm

Under 18s = baby bonds

45
Q

Structured products

A

Investment returns linked to equity investments (usually an index)

Returns achieved through combination of deposit/fixed interest investments and derivatives

Capital bonds generally provide minimum guaranteed return

Income bonds are mostly no longer available

Generally sold in tranches

May receive income or gains – if gains can use CGT AEA, if income then tax liability is deferred if interest rolls-up. If held in ISA/ pension, then no tax due

May reduce IHT payable due to illiquid nature – may be worth less on death than they will on later maturity

46
Q

Pensions

A

Registered Pension Scheme Privileges:
- Tax relief on input
- No CGT on gains or investment income within fund
- 25% of fund tax-free on crystallisation
- Tax-free death benefits before age 75 (within limits)

Contributions:
- Employed and self-employed - tax relief on contributions up to 100% of earnings
- Employer and employee contributions - up to annual allowance £40,000
- Subject to tapered annual allowance (min £4,000) for those with total income in excess of £240k (reduced by £1 for every £2)
- Low/no earnings - £3,600 per annum with basic tax relief

Tax Relief on Contributions:
- Net pay method - contributions deducted from pay before calculating tax
- Relief at source - contributions net of 20% tax (higher relief claimed from HMRC)
- Pre-July 1988 retirement annuity contracts and GP/dentists who are taxed as self-employed and also members of NHS pension scheme claim relief via self- assessment

Carrying Forward Annual Allowance:
- Any unused part of the annual allowance from previous 3 years – 2021/22, 2020/21 and 2019/20 for 2022/23 - can be carried forward and added to the current year’s allowance
- Pension Input Period - in line with tax year since 2017/18

47
Q

Max Benefits

A

Lifetime limit £1.0731m

Max tax-free cash - 25% of fund

Retirement date - earliest age 55 (rising to 57 2028)

Death benefits before 75 - usually tax free up to lifetime allowance

48
Q

Pension Retirement Income

A

Occupational schemes - scheme pension

Individual schemes - secured pension (annuity) or capped/flexi-access drawdown

No longer requirement to crystallise benefits

PCLS can be taken at any time, but only alongside ‘relevant’ pension

Transfers to charity are tax-free

49
Q

Pension Investments

A

Residential property and tangible moveable assets trigger tax charge

Max borrowing - 50% of net value of fund

Pension fund taxation - tax-free on gains and investment income

50
Q

Pension Planning

A

Greatest value where tax relief on contributions is greater than tax on benefits

Employer contributions and pension benefits are not subject to NICs

Non-earners (including children) can pay contributions of £3,600 and receive tax relief

Make pension contributions to remove dividends from higher tax rates, increase basic rate band and reduce gains taxed at 20%/28%

51
Q

Annuities

A

Purchased Life Annuity (PLA):
- Capital content tax-free,
- Interest element treated as savings income and taxed @ 20%
- Capital content based on purchase price divided by number of year annuitant expected to live (mortality tables prescribed by HMRC)

Purchased Annuities Certain:
- Fixed term
- Capital content tax-free
- Interest element treated as savings income and tax and taxed @ 20%
- If annuity is paid to someone other than person who paid purchase price, then no tax-free capital content

Pension / Lifetime Annuity:
- Taxed in full as earned income

Deferred Annuity:
- Taxed as PLA when annuity taken

Annuities for Beneficiaries:
- Under a trust or will, taxed as full investment income, basic rate deducted at source

Cash Sum Payable Under Guaranteed Annuity:
- Tax-free

Structured Settlements:
- Annuity paid in settlement of claim for damages, paid without deduction of tax and not taxable in hands of recipient

Immediate Needs Annuity:
- No income tax liability if used for long-term care and payments made direct to care provider

52
Q

Paying Annuities Gross

A

Complete HMRC form R89 if total income doesn’t exceed personal allowance

RO3 - Personal Taxation (11 decks)

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