Clients often ask us about what tax efficient investments are on the market. There have been lots of changes especially in recent times so we have prepared a brief overview.
Individual Savings Accounts
ISAs have been around since 1999. They initially offered the ability for a UK resident individual to invest a small amount each year and for that investment to grow free of income tax and capital gains tax. An investment could be cash, or stocks and shares.
Over the years many different types of ISA have been introduced:
The Standard ISA currently enables an individual to invest £15,240 per year. These funds may be invested as cash, or in stocks and shares.
Income and gains within an ISA are tax-free. If an ISA is left to an individual’s spouse on death, the funds will retain their identity as an ISA and the tax-free status is preserved.
A standard ISA can only be opened if you are at least 18 years old (or 16 years old for a cash ISA).
A Junior ISA can be opened by individuals that are younger than 18 years old. Funds may be invested as cash, or in stocks and shares. The annual investment limit is currently £4,080.
When an individual turns 18 a Junior ISA automatically becomes a Standard ISA.
Help to Buy ISA
The Help to Buy ISA is designed to help individuals buy their first home by offering a “bonus” of 25% of funds saved.
A Help to Buy ISA can be opened with an initial deposit of up to £1,200. Thereafter, £200 per month can be saved. Interest and bonuses received on the funds are tax-free. When the funds are applied to a qualifying house purchase the account receives a 25% bonus of between £400 and £3,000. If funds are withdrawn and not applied to a house purchase a bonus is not received.
Total contributions to a Standard ISA and a Help to Buy ISA cannot exceed the current limit of £15,240 per year. Help to Buy ISAs are to be abolished from 1 December 2019.
A Lifetime ISA can be opened by a UK resident individual aged between 18 and 40 years old. Up to £4,000 per year can be saved until the account holder is 50 years old, and funds can be invested as cash, or in stocks and shares. Each year a 25% bonus is paid on the amount saved in that year. Income, gains and bonuses accumulate in the ISA tax-free.
A Lifetime ISA is designed to allow an individual to purchase a first home or save for retirement, and therefore withdrawals for a first property purchase or after age 60 can be made tax-free and without penalty.
Withdrawals outside of these events will incur a 5% penalty, the loss of bonuses, and the loss of the income and growth associated with the forfeited bonuses.
Innovative Finance ISA
The Innovative Finance ISA was introduced on 6 April 2016 to enable individuals to take advantage of the more attractive interest rates offered by peer to peer lending. Innovative Finance ISAs will be offered by FCA regulated peer to peer lending platforms.
Pensions remain a tax efficient investment. Contributions currently receive full tax relief at your marginal rate, with the Government contributing 20% direct to the pension fund, and the remaining tax relief being claimed on a Tax Return.
Income and gains within a pension fund grow tax-free. With the use of a Self-Invested Personal Pension (SIPP) or a Small Self-Administered Scheme (SSAS) an individual can retain a much greater level of control over investment decisions of the funds.
There is now greater flexibility over the withdrawal of pension funds than ever before. An individual can start to withdraw funds from age 55, and there are now no restrictions on the amount that can be withdrawn.
Further, on death unused pension funds can be left to beneficiaries free of inheritance tax, and in some circumstances those beneficiaries can withdraw funds free of income tax. With the benefits introduced in recent years have come restrictions on the amount that can be contributed to a pension fund. The annual maximum contribution is now just £40,000 (dependent on earnings) and can be as low as £10,000.
Enterprise Investment Scheme
Investment in shares through the Enterprise Investment Scheme (EIS) attract significant tax benefits.
Any investment attracts tax relief at 30% and any profit on the sale of the shares in due course is free of capital gains tax. A capital gain on the sale of any assets (a buy to let property, for example) can be deferred into EIS shares, delaying the payment of capital gains tax. EIS shares also qualify for Business Property Relief, so should not liable to inheritance tax should they be held at death.
If an investment in an EIS company should result in a loss, that commercial loss can be set against income so that further tax relief can be received. The reason that EIS shares attract such tax benefits is because EIS investments are generally in high-risk businesses, and advice should always be taken when making EIS investments.
Seed Enterprise Investment Scheme
The Seed Enterprise Investment Scheme (SEIS) works in a similar way to EIS, but with additional tax benefits. The tax relief available on investment is 50%, and it is possible to eliminate part of recent gains by investing in SEIS shares. The reason for these additional tax benefits is that SEIS is only available when investing in small start-up businesses, and the investments are therefore considered higher risk.
Venture Capital Trusts
Venture Capital Trusts (VCTs) are funds that are listed on the London Stock Exchange. These funds invest in small, high-risk businesses.
Any investment attracts tax relief at 30%, any dividends received are tax-free, and any capital gain on sale is tax-free. It is not possible to defer gains or claim loss relief against income using a VCT, as with EIS.
Business Investment Relief
Business Investment Relief (BIR) is available to UK resident, non-domiciled individuals, and is designed to encourage the investment of funds in UK businesses. The relief allows a non-domiciled individual to bring funds to the UK without triggering a remittance, provided that the funds are invested in a qualifying company. Once the investment has matured the funds must be removed from the UK or further qualifying investments made if a charge to tax is to be avoided. Any gains or income received from UK investments will be liable to UK tax and can remain in the UK.
Investors Relief is a new relief introduced from March 2016. This relief allows an individual to pay 10% tax on any gains made on subscribed shares in an unlisted trading company, where those shares are held for at least three years. For this purpose, unlisted includes AIM listed shares.
This article is only intended to give a brief outline to what is available. For more details please call one of our team who would be happy to advise further.