AF1:Taxation of Investments

AF1:Taxation of Investments
2019/20 17/8/2019 Audley Financial Training

Taxation of Investments
ISA Unit Trusts/OEICS Taxation of Investments EIS/SEIS VCT Insurance Policies Property Furnished Holiday Lets Real Estate Investment Trust Rent a Room 17/8/2019 Audley Financial Training

Audley Financial Training
What we will cover Assume there are no issues with the taxation of unit trusts and OEICs Investment Bonds will be covered on the second day On ISA we will cover new rules on what happens on death, HTB ISA and Lifetime ISA REITs and Furnished Holiday Lettings EIS, SEIS & VCT 17/8/2019 Audley Financial Training

ISA: What happens on death
If death occurred after April it can be classed as a continuing ISA. This means its tax privileged status is retained whilst in the estate. The deceased’s executors usually apply to the provider(s) for this status. The status will last until the earlier of 3 years from date of death The ISA is closed The administration of the estate is completed 17/8/2019 Audley Financial Training

Additional Personal Subscription (APS)
If death occurred after 3/12/14 a surviving spouse or CP gets an APS. They inherit the deceased’s wrapper even if they don’t inherit the underlying assets. If death occurs before April , the APS is the value of the deceased’s ISA at date of death. If death occurred on or after 6 April 2018 the APS is the greater of the value at date of death or the value of the assets when they cease to be a continuing ISA The APS is available on the day after the spouse’s death 17/8/2019 Audley Financial Training

Using the APS It can be either an in specie or cash contribution In specie contribution must be made to the same manager used by the deceased and must be made within 180 days of becoming the owner. Cash contributions can be made by either the spouse using their own assets or selling the deceased’s ISA and reinvesting the proceeds. Can be made to any provider or type of ISA but must keep to one provider for the whole of the APS The APS entitlement expires 3 years after the death of the spouse 17/8/2019 Audley Financial Training

Think about this Harry dies on 1/5/19 with ISA value £90,000 at date of death The executors designate it as a continuing ISA His wife has not made an ISA subscription for 19/20 She makes a £20,000 subscription on 31/7/19 Should this be set against her annual subscription or her APS What would be the consequence if she were to make a £40K subscription on that date? 17/8/2019 Audley Financial Training

Help to Buy ISA Must be over 16 and UK resident Be a first time buyer & own no property anywhere in the world Cannot have contributed to a cash ISA in the same tax year as HTB ISA Open account with a max of £1,200 Save up to £200 a month Get a 25% Government bonus. Minimum savings £1,600, Maximum £12,000 Will close to new applications on 30 November 2019 17/8/2019 Audley Financial Training

Lifetime ISA Available to individuals aged 18 to 40 but contributions can continue until 50 Maximum contribution £4,000 per tax year, comes out of standard ISA allowance of £20,000 Government bonus of 25% on each contribution made up to age 50. BUT penalty of 25% on withdrawals unless Used for first time house purchase Taken after age 60 17/8/2019 Audley Financial Training

Insurance Policies 2019/2020 17/8/2019 Audley Financial Training

Key Points The difference between non-qualifying and qualifying policies The taxation of Investment Bonds 17/8/2019 Audley Financial Training

Insurance Policies The assets held in an insurance policy belong to the insurance company. Therefore the company is liable to pay corporation tax on any income and gains. Taxation of the investor will depend whether the policy is qualifying or non qualifying Qualifying free of personal taxation Non qualifying there may be additional income tax liability on the gain 17/8/2019 Audley Financial Training

Qualifying and non-qualifying
Qualifying policies are regular payment policies with a term of at least 10 years. A non-qualifying policy can never become qualifying but a qualifying policy can become non-qualifying If the policy is surrendered within ¾ of the term or 10 years if less. 17/8/2019 Audley Financial Training

Investment Bonds A whole of life non-qualifying policy. Lump sum investment Whole of Life means it has no fixed term Ends on the death of the life assured If joint life it is on a second death basis Can have a young person, say a grandchild as life assured Company offers a range of unitised funds 17/8/2019 Audley Financial Training

Taxation principles Tax will only be due if there is a chargeable event and a gain has been made The gain will be liable to income tax and taxed after non-savings, savings and dividends. The rate will be 20%, 40% and 45% but a credit of 20% is given for tax already paid within the fund Non tax payers cannot reclaim the tax paid within the fund All funds in the Bond are taxed in the same way 17/8/2019 Audley Financial Training

Chargeable events Tax is due if there is a chargeable event. These are : Death of the policy holder Full Surrender Withdrawals in excess of the 5% limit Assignment where the donor receives payment 17/8/2019 Audley Financial Training

Events that are non-chargeable
Assignments given as a gift Switching of funds 17/8/2019 Audley Financial Training

Taxation and top slicing
Significant changes The following slides show the “short method” which can still be applied if the investor has used all of their PSA for the current tax year 17/8/2019 Audley Financial Training

Olivia is a higher rate tax payer.
She fully surrendered an Investment Bond making a gain of £30,000 Provided that this gain does not take her into the additional tax rate band she will have to pay 20% giving a liability of £6,000 17/8/2019 Audley Financial Training

Karl invested £50,000 in an Investment Bond on 1/5/08
He fully encashed this on 1/11/18 for £80,000 giving a gain of £30,000 Before adding this on to his other income he is a basic rate tax payer but the £30,000 puts him into higher rate. There are two possibilities. It does not take him into higher rate tax so he has no liability. If it does then this is what you do He uses top slicing. £30,000 is divided by the complete number of years, in this case 10 This gives £3,000 and added to his other income 17/8/2019 Audley Financial Training

Let’s assume that £1,200 falls into the higher rate band
Multiply £1,200 by number of years used to top slice. This gives £12,000 This is then charged at 20% giving a liability of £2,400 17/8/2019 Audley Financial Training

Top slicing “Short method”
Divide chargeable gain by number of complete years bond has been held. Add to other income If still in basic rate no further tax If part in higher rate multiply amount in higher rate by number of years bond held Charge this at 20% 17/8/2019 Audley Financial Training

Top slicing: revised rules
Chargeable gain is the last income to be taxed. However gains are classed as savings income Therefore if the client hasn’t used all their PSA or even the 0% starting rate The chargeable gain must take account of this If PSA has been used up, the “short method” is used. 17/8/2019 Audley Financial Training

Now higher rate tax payers can benefit from top slicing relief
Under the old method top slicing relief could only be used if the whole gain pushed the individual into a higher tax bracket Now higher rate tax payers can benefit from top slicing relief 17/8/2019 Audley Financial Training

How to calculate Top Slicing Relief
The net tax due on the whole gain using all available tax bands including any PSA LESS The net tax due on the “slice” using all available tax bands including any PSA multiplied by years bond held 17/8/2019 Audley Financial Training

Tax on whole gain PSA 0% Basic 20% Higher 40% Additional 45% Less tax credit Net tax on whole gain Slice on gain Slice PSA 0% Basic 20% Higher 40% Additional 45% Less tax credit Total Multiplied by years held 17/8/2019 Audley Financial Training

Tom has a salary of £60,000 but has savings income. He also makes a chargeable gain of £30,000 which had been held for 10 years Tax on whole gain PSA Nil 0% Basic 20% Higher £30,000 40% £12,000 Additional 45% Less tax credit £6,000 Net tax on whole gain Tax on Slice Slice £3,000 PSA 0% Basic 20% Higher 3,000 40% £1,200 Additional 45% Less tax credit £600 Total xN X 10 £6,000 17/8/2019 Audley Financial Training

Dick has a salary of £60,000 and no taxable income. He also makes a chargeable gain of £30,000 which had been held for 10 years Tax on whole gain PSA £500 0% Basic 20% Higher £29,500 40% £11,800 Additional 45% Less tax credit £30,000 £6,000 Net tax on whole gain £5,800 Tax on Slice Slice £3,000 PSA 500 0% Basic 20% Higher 2,500 40% £1,000 Additional 45% Less tax credit £600 Total £400 xN X 10 £4,000 Therefore TSR is £1,800 17/8/2019 Audley Financial Training

What this means for Dick
TSR is £1,800 Tax on whole gain PSA £500 0% Basic 20% Higher £29,500 40% £11,800 Additional 45% Less tax credit £30,000 £6,000 Net tax on whole gain £5,800 Tax due £11,800 Less Tax Credit £6,000 Less TSR £1,800 Dick must pay £4,000 17/8/2019 Audley Financial Training

Let’s recap (higher rate)
Identify if any PSA of £500 is available for the gain If not tax at 20% is payable on the whole gain. No further action If full amount is available, calculate liability on full gain using PSA Deduct tax credit (full 20%). This is relieved liability on gain (A) Calculate slice and tax 0% and balance at 40% Deduct tax credit Multiply by years held. This is relieved liability on slice (B) Top slice relief is Amount A less Amount B 17/8/2019 Audley Financial Training

Therefore TSR is £2,700. Kato has to pay an additional £5,000
Kato has a salary of £49,000 and no taxable savings income. He has made a gain of £40,000 over 10 years Tax on whole gain PSA £500 0% Basic 20% £100 Higher £39,000 40% £15,600 Total £15,700 Less tax credit £40,000 £8,000 Net tax on whole gain £7,700 Tax on Slice Slice £4,000 PSA 500 0% Basic £500 20% £100 Higher £3,000 40% £1,200 Total £1,300 Less tax credit £800 X 10 £5,000 Therefore TSR is £2,700. Kato has to pay an additional £5,000 17/8/2019 Audley Financial Training

Therefore TSR is £2,300 Jane has no additional tax to pay
Jane has a salary of £40,000 and no savings income. She has made a gain of £27,000 over 9 years Tax on whole gain PSA £500 0% Basic £9,500 20% £1,900 Higher £17,000 40% £6,800 Total £8,700 Less tax credit £27,000 £5,400 Net tax on whole gain £2,300 Tax on Slice Slice £3,000 PSA 500 0% Basic £2,500 20% £500 Higher Total Less tax credit £600 (-£100) Therefore TSR is £2,300 Jane has no additional tax to pay 17/8/2019 Audley Financial Training

Let’s recap ( basic rate into higher rate)
Identify if any PSA of £500 is available for the gain. If not you can use “short method” If full amount is available, calculate liability on full gain using PSA and remaining basic rate band Deduct tax credit (full 20%). This is relieved liability on gain (A) Calculate slice and tax 0%, balance of basic rate 20% and balance at 40% Deduct tax credit and multiply by years held. This is relieved liability on slice (B) Top slice relief is Amount A less Amount B If amount B is less than zero, TSR is amount A 17/8/2019 Audley Financial Training

Income from Investment Bonds
Investment Bonds do not produce income to the investor, all income is reinvested in the fund Up to 5% of the original investment can be withdrawn each plan year on a tax deferred basis This is cumulative so if not used one year it can be carried forward. Any withdrawals above the 5% amount is a chargeable event On final encashment all the “5% withdrawals” are added to the final gain. 17/8/2019 Audley Financial Training

Tom invested £50,000 in an IB on 1/6/11.
On 1/7/18 he wants to make a partial withdrawal The plan is in its 8th year so he could withdraw 40% of £50,000 or £20,000 If only £5,000 was withdrawn then £15,000 remains available 17/8/2019 Audley Financial Training

Julie invested £40,000 in an IB. Ten years later she surrenders the IB and receives £44,000. She also withdrew £12,000 during the life of the plan using the 5% rule. The gain is £4,000 + £12,000 = £16,000. 17/8/2019 Audley Financial Training

Bond segmentation To give more flexibility most bonds are split into segments or mini policies To take out part of the holding the planholder can either surrender whole segments or use the 5% withdrawal facility. The resulting tax liability can be quite different 17/8/2019 Audley Financial Training

£20,000 £24,000 1/7/13 1/10/18 1000 segments @ £20 1000 segments @ £24
Using the 5% rule £6,000 would be tax deferred and £2,400 chargeable at 20% £8.40 withdrawn from each segment so each one is now worth £15.60 A higher rate tax payer wants to withdraw £8,400. What is the most tax efficient option? £8,400/£24 = 350 350 x £24 = £8,400 Gain on each plan is £4 350 x £4 = £1,400 17/8/2019 Audley Financial Training

Taxation of offshore bonds
All rules are the same No UK tax within the fund so investor must pay the full rate on the gain Top slicing relief is calculated in the same way but it is deducted from the gross tax payable on the gain 17/8/2019 Audley Financial Training

Kato has a salary of £49,000 and no taxable savings income. He has made a gain of £40,000 over 10 years in an offshore bond Tax on whole gain PSA £500 0% Basic 20% £100 Higher £39,000 40% £15,600 Total £15,700 Less tax credit £40,000 £8,000 Net tax on whole gain £7,700 Tax on Slice Slice £4,000 PSA 500 0% Basic £500 20% £100 Higher £3,000 40% £1,200 Total £1,300 Less tax credit £800 X 10 £5,000 TSR is £2,700. This is deducted from £15,700 to give a liability of £13,000 17/8/2019 Audley Financial Training

The exception There is one time when CGT is payable on the gain made on a life policy. This is when someone buys an existing with profit policy on the “secondhand” market. When the policy matures the gain is the maturity value less purchase price and premiums paid The gain is subject to CGT 17/8/2019 Audley Financial Training

The key points Insurance policies are either qualifying or non-qualifying There is no personal tax liability on qualifying policies Non qualifying policies are subject to the chargeable event regime Gains on chargeable events are subject to income tax at 20%, 40% or 45% A 20% tax credit is given to represent the tax paid by the insurance company. IB do not pay an income but 5% of the original investment can be withdrawn each plan year on a tax deferred basis 17/8/2019 Audley Financial Training

Investing in property through collectives
Open ended – Unit trusts/OEIC/Insurance Funds Liquidity and valuation issues Property Authorised Investment Fund (PAIF) Property Company shares No liquidity issues Company pays tax on rents it receives Investors receive dividends from the overall profits of the business 17/8/2019 Audley Financial Training

Real Estate Investment Trust (REIT)
Close ended property company, listed on recognised Stock Exchange Can be placed in an ISA Unique tax treatment To qualify: 75% of its profits must come from property rental income 75% of its assets must be involved in property rental 90% of rental received must be distributed to investors 17/8/2019 Audley Financial Training

Taxation of a REIT REIT Investors Rent exempt from tax
Property Investment Distribution Investors REIT Rent exempt from tax Dividend (Non PID) Rent exempt from tax 17/8/2019 Audley Financial Training

Rent a Room Relief Allows a householder to rent out rooms with the first £7,500 being tax free It must be in their main residence and in the UK It must not be a self contained flat It must be furnished It must not be used for business purposes 17/8/2019 Audley Financial Training

Property exemption If property income is less than £1,000, no tax is due and it doesn’t need to be declared Or if more than £1,000 the first £1,000 can be treated as tax free but no expenses can be claimed. If property is jointly owned each owner can claim the £1,000 exemption Can’t use it with rent a room 17/8/2019 Audley Financial Training

Furnished Holiday Lettings
If it qualifies for FHL, the income is taxed as trading income. This means: Income counts as NRE for pension contributions Capital Allowance can be used Mortgage interest can be offset against income Qualifies for Entrepreneur relief Business holdover relief can be used Trading losses can be offset against income BPR may be available Doesn’t need to be in a holiday resort! 17/8/2019 Audley Financial Training

210 105 31 To qualify Must be furnished and in the EEA
Number of days it must be available to rent 105 Number of days it must be let 31 Maximum rental period to count towards 105 days 17/8/2019 Audley Financial Training

The tax efficient but risky trio
Enterprise Investment Scheme (EIS) Small Enterprise Investment Scheme (SEIS) Venture Capital Trust (VCT) All are designed to encourage investment in small start up businesses All give substantial tax breaks EIS and SEIS are shares in unlisted companies VCT are listed but invest in unlisted companies 17/8/2019 Audley Financial Training

Contributions EIS SEIS VCT Contribution £1,000,000 £100,000 £200,000
£2,000,000 if it is knowledge intensive EIS SEIS VCT Contribution £1,000,000 £100,000 £200,000 Tax relief 30% 50% Claw back 3 years 5 years Back dating One year No 17/8/2019 Audley Financial Training

Tax Reducer Ben invests £100,000 into a VCT so is eligible for tax relief of £30,000 His income tax liability is £28,000 so it is reduced to £0 but there is no refund 17/8/2019 Audley Financial Training

Clawback Jan invests £30,000 in an EIS and gets £9,000 in tax relief
Two years later the company is bought by a Private Equity firm and she receives £60,000 Jan must repay the tax relief of £9,000 so her gain is £30,000 If the business had collapsed and the shares were valueless she would still have to repay £9,000 and her loss would be £21,000 17/8/2019 Audley Financial Training

Clawback (2) Two years later the shares have fallen in value to £35,000 and she decides to sell Sue invested £60,000 in an EIS receiving £18,000 in tax relief Her net loss is £60,000 less £35,000 less £7,500 = £17,500 Her gross loss is £25,000 but she must repay tax relief on this loss £25,000 x 30% = £7,500 17/8/2019 Audley Financial Training

CGT EIS SEIS VCT Contribution £1,000,000 £100,000 £200,000 Tax relief 30% 50% Claw back 3 years 5 years Back dating One year No CGT deferral on reinvested gains Yes Yes and will wipe out 50% of invested gain CGT on gains Exempt after 3 years Free immediately Loss relief (income tax) 17/8/2019 Audley Financial Training

CGT deferral (EIS only)
If the £200,000 gain is invested in an EIS the gain is deferred Jane is a higher rate tax payer and has a chargeable Capital Gain of £200,000 with a liability of £40,000 But when the EIS is realised the £200,000 gain becomes taxable at that year’s rate 17/8/2019 Audley Financial Training

CGT Reinvestment (SEIS)
She invests the maximum £100,000 in a SEIS and wipes out £50,000 of her gain saving her £10,000 Jane is an additional rate tax payer and has a chargeable Capital Gain of £200,000 with a liability of £40,000 As she could also have claimed £50,000 as a tax reducer, it would have cost her £40,000 to invest £100,000 If she lost all the money in the SEIS, she could offset £50,000 under loss relief saving her £22,500 Her maximum possible loss is £17,500 17/8/2019 Audley Financial Training

Dividends and IHT EIS SEIS VCT Contribution £1,000,000 £100,000 £200,000 Tax relief 30% 50% Claw back 3 years 5 years Back dating One year No CGT deferral on reinvested gains Yes Yes and will wipe out 50% of invested gain CGT on gains Exempt after 3 years Free immediately Dividends Taxable Tax free BPR 17/8/2019 Audley Financial Training

Overall course objective
By the end of the course you will have: increased your chances of passing the exam by covering the technical points that are likely to be tested 17/8/2019 Audley Financial Training

Day 1 objectives By the end of this session, delegates will be able to: Calculate accurately a liability to income, capital gains and inheritance tax and national insurance for individuals whose situation is typical of those tested in previous AF1 papers. Understand the main pension input and benefit rules as applied to typical AF1 questions Explain accurately the tax treatment of the main pooled investments both on and offshore and apply these rules to practical situations faced by the average investor 17/8/2019 Audley Financial Training

AF1:Taxation of Investments

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