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    Tax considerations on investment vehicles

    The current generation will one day be known as the generation that invented unlimited choice.

    This creates a problem for many people because unlimited choice often distracts people from what they are supposed to do. How often has it happened to you that you sit in front of your computer and before you know it you have been sidetracked by another email or article on the web which had nothing to do with what you planned to do?

    Too much information can be our downfall if we are not disciplined in saying “No” to some “stuff” even if it is “good stuff”. The quality decision makers will be those that learn the art of being focused.

    This is so important when dealing with investments.

    We believe private clients should focus on the following key items:

    1. Investment objective of my assets e.g. I am targeting a return of CPI + 5% over a 5 year period.
    2. Asset allocation i.e. what should my allocation be to the different asset classes in order to secure my investment objective?
    3. Deciding on a portfolio manager. Who am I going to appoint to manage my portfolio or am I going to manage it myself?
    4. Investment vehicles … which vehicle provides adequate tax efficiency for me?

    Let’s look at the last point on this list today.

    One of the important factors for private client is to reduce their tax liability as far as possible and also to extend the payment of the tax into the future as far as possible.

    How could this be achieved?

    1. Direct share portfolios:
    Many private clients prefer their own share portfolio as a “hands-on” approach to managing their investments. It is an exciting structure because you have “your own” portfolio. However, from a tax point of view it is not ideal because capital gains tax is paid on every trade and if trades are too frequent the gains could become “income” by nature.

    2. Endowment policy:
    One option is to ring-fence the share portfolio or unit trust portfolio in an endowment policy. This way the capital gains are taxed at a 7.5% rate and income at a 20% rate. Some life companies offer better rates than these depending on their internal tax liability. These unit-linked endowment policies are very flexible and could reduce the tax liability significantly if one gets competitive tax rates.

    3. Unit trusts:
    Private clients sometimes dislike unit trusts because of their view that unit trusts offer “bad returns”. At the end of the day a unit trust is just an investment vehicle i.e. legal structure. The performance of the unit trust depends 100% on the underling investments in the unit trust. E.g. you could have a unit trust where the underlying holdings are only shares and the performance of the trust will be 100% linked to the return of the share portfolio. One advantage is that the investor only attracts a capital gain when the investor sells units from the unit trust and not when shares are bought and sold within the unit trust itself.

    4. Retirement annuities:
    Private clients sometimes dislike retirement annuities because of its high cost structures, penalties, and poor performance. However, these are generally comments about the old natured retirement annuities. Nowadays retirement annuities can be unit-linked. Therefore the retirement annuity is again just a legal structure. The investor can decide what underlying investments he wants to invest in. It can even be a share portfolio. However, tax wise a retirement annuity is an excellent vehicle.

    So if you ask many private clients the question: “Which vehicle they prefer?” they will most likely say the direct share portfolio and the least likely say retirement annuities and endowment policies. However, from a tax point of view (and net cost) there can be better solutions … even though at face value they don’t always appear so “attractive”.

    Have a fantastic weekend

    Kind regards

    Vincent Heys
    021 9144 966

    Permalink2010-10-08, 16:53:32, by ian Email , Leave a comment
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