LG Investment News

Welcome to our latest issue of Lyon Griffiths’ Investment News.

We aim to communicate the key current topics in the world of financial advice and highlight the up and coming issues in an understandable and digestible format.

In this Edition:

  • Time to review your Will?
  • Should I stay or should I go?
  • State pension offer
  • Year-end tax planning
  • Longevity
  • The writing on the wall
  • Lifetime ISA penalties deferred
  • School fees planning
  • HMRC’s ‘snooper computer’
  • Bank of England loose cannon

 


Time to review your Will?


Until 2007, it was standard advice to people whose estates would potentially be liable to pay inheritance tax to include in their Will a trust into which part of the value of the estate would pass. In most cases, this is no longer appropriate.

The reason for the trust was that no inheritance tax is payable on the first slice of an estate, referred to as the ‘nil rate band’, which currently stands at £325,000. However, estates passing between spouses and civil partners are wholly exempt from tax, so the nil rate band would not be used.

The trusts drafted by solicitors to address the issue would name the testator’s spouse as a beneficiary but avoid the tax consequences which would have arisen if the assets had been bequeathed directly to the spouse.

However, as increases in house prices pushed the value of an increasing number of estates above the nil rate band, the Government decided to allow all spouses to achieve a similar objective to the trust arrangement, by permitting the value of the nil rate band to be transferred to the surviving spouse.

Many wills still include these trusts, and they continue to be effective and indeed to offer some advantages over the transferable nil rate band.

All this will change as from 6 April 2017, when an additional nil rate band, known as the family home allowance, will be introduced for the benefit of home owners. This entitles ‘direct descendants’ of a deceased who inherit the family home to a further allowance which will increase each year until it reaches £175,000 by the tax year 2020/21.

Combining the nil rate band and the family home allowance will eventually provide exemption from tax for estates worth £1 million. However, since it is only available if the home goes to ‘direct descendants’, it would not apply to trust arrangements, and wills containing such arrangements may need to be re-written.

The family home allowance is clawed back from estates worth over £2 million, so in these cases it might be decided to keep the trust arrangements in place.


Should I stay or should I go?


Occupational pensions have been in the news recently for a number of reasons. First, the near collapse of the BHS pension scheme. Then the Government plan to make it easier for employers who are struggling to maintain pension promises to water down their pensioners’ benefits.

Add in the fact that the terms on which employees can transfer out of schemes are currently unusually favourable and that in April the ‘exit’ charges for members wishing to transfer from occupational schemes to Self-Invested Personal Pension schemes or other ‘defined contribution’ schemes will be capped at 1%, and it is little wonder that an increasing number of members of occupational schemes are considering transferring.

This would enable them to enjoy the benefits of the so-called ‘pension freedoms’, including unrestricted access to benefits as from the age of 55 and inheritance tax advantages. But would transferring be the right thing to do?

Before the financial crisis or 2008 it was confidently assumed that the greatest advantage of final salary schemes was that the benefits were guaranteed. However, following the BHS scare, employees have come to realise that a guarantee is only as good as the guarantor – i.e. the sponsoring company.

There is, however, a government ‘lifeboat’ scheme, the Pension Protection Fund, which underpins pension entitlements. Pensions up to £10,000 are likely to be protected, but the scheme would not cover scheme pensions over £37,420 per year.

Apart from the question of the guarantee, what are the other factors affecting the decision as to whether or not to transfer?

First, there is the question of risk. The value of a defined contribution scheme depends on the value of the scheme investments, which depends on the stock market. The employee, rather than the employer, shoulders this risk.

The value of death benefits would be another consideration. Occupational schemes include widows’ pensions and a lump sum payment on death in service.

Under a defined contribution scheme, life cover would have to be paid for separately, so individual family circumstances would be another factor in any decision.

Financial advisers usually take as their starting point that transfers will only be appropriate if there are real doubts about the viability of the occupational scheme. But if it seems that there could be a case for moving, the adviser will usually conduct a ‘critical yield’ analysis to determine what return would be required from the new scheme to match the benefits of the occupational scheme.

This analysis involves making assumptions on a number of issues, including the possible course of interest rates, stock market returns and personal health and family responsibilities.

The prediction of income would then need to be related to an analysis of likely expenditures, which would involve the use of cashflow forecasting software. However, there can be no guarantees that events will turn out as predicted. Hence the reluctance of financial advisers to recommend transfers.


State pension offer


A Government offer enabling savers to boost their State pension by making a lump sum payment to secure additional income of up to £25 per week, will expire in June.

The offer has been available since 2014, when it was introduced to enable people who lost out as a result of the replacement of the old basic State pension by the new flat rate pension to buy additional guaranteed pension income on favourable terms. Since then, continuing low interest rates have made the offer even more attractive.

The question of whether an individual saver should take up the offer depends on a number of factors, including age, health, marital status, tax bracket and inheritance plans.

What can be said is that the offer is unlikely to be attractive to higher-rate taxpayers in questionable health, but it should be given serious consideration by anyone else who might otherwise have intended to buy a retirement annuity.


Year-end tax planning


The tax year end is approaching and calls for a review of personal finances:

Pension contributions

The maximum pension contribution on which tax relief can be claimed in any one year is £40,000, but if funds are being withdrawn under a flexible drawdown arrangement, then the limit reduces to £10,000 and is set to reduce again to £4,000 with effect from 6 April 2017. This is intended to stop people recycling funds by claiming tax relief twice on the same contribution.

In order to qualify for tax relief, the maximum personal contribution must not exceed 100% of pensionable earnings, though employer contributions would permit this limit to be exceeded.

Carry forward

Provided that the annual allowance for pension contributions has been used in full in any one year, it is permitted to carry forward any unused allowance from up to three previous years. The oldest unused relief must be carried forward first, and no allowance can be carried forward from years in which the scheme member was not a member of a registered pension scheme.

ISA allowance

The maximum amount which can be contributed to an ISA in 2016/17 is £15,240, but this will increase to £20,000 as from 6 April 2017. Both spouses are entitled to their own allowance, but unlike the situation with pensions, an unused ISA allowance cannot be carried forward. So it’s a case of ‘use it or lose it’!

Some providers now permit money to be withdrawn from an ISA and replaced in the same tax year without the payment being treated as a fresh contribution.

Capital gains tax

It is worth checking to ensure that the £11,100 exemption from capital gains tax is used each year by both members of a married couple to shield gains on investments which are not held within a  tax-protected ‘wrapper’ such as an ISA.

Child benefit

The value of child benefit begins to reduce when recipients’ ‘adjusted net income’ exceeds £50,000 a year, and  ceases to be available when it reaches £60,000. However, the value of adjusted net income will be reduced by the amount of any pension contribution, thus enabling child benefit to be reclaimed.

Personal allowance

A similar principle applies to the personal tax allowance, currently £11,000 p.a. and increasing to £11,500 p.a. as from 6 April 2017. When a taxpayer’s income exceeds £100,000 p.a., the personal allowance starts to be reduced, and it ceases to be available when income reaches £122,000. The effect is that income between these two levels is taxed at up to 60%. However, in the same way as with child benefit, the thresholds will be reduced by the amount of any pension contributions.

Inheritance tax

Gifts can be made each tax year which will reduce the value of an estate for the purposes of inheritance tax. The annual exemption is £3,000, and if this is not fully used in one year the balance can be carried forward to the next. In addition, gifts up to £5,000 can be made by parents on the marriage of children, and £2,500 by grandparents. Furthermore, any number of gifts of £250 can be made without attracting tax.

The most valuable exemption applies to outright gifts of unlimited value which are made more than seven years before the death of the donor. Thereafter, these ‘potentially exempt transfers’ become wholly exempt from inheritance tax


Longevity


Gregg McClymont, the Shadow Pensions Minister during the coalition government, has produced an interesting report on an academic study of longevity. It was Mr McClymont who, when asked in an interview what if anything kept him awake at night, replied “Andy Murray’s second serve”.

The conclusion reached by the academics is that longevity is being significantly underestimated and that many people will need to review their financial provision for retirement.

History suggests that life expectancy has risen in a straight line since the year 1800, and current estimates of an average life span in developed countries range between the ages of 80 and 85. However, the academics concluded that a child born today is likely to live to the age of 100.

The assumption that lives will follow the sequence of education, work and retirement is being called into question, and a more fluid progression is envisaged, partly as a result of individuals demanding greater flexibility in the way they work. People no longer expect to have a job for life, but instead to change jobs several times.

Meanwhile, the increased use of technology is not only relieving workers of more mundane tasks, but is also assisting them to work for themselves. The legal profession is seeing a marked growth in the number of ‘virtual’ law firms, consisting of self-employed lawyers working under an administrative umbrella, at times to suit themselves. This is proving particularly attractive to women lawyers wishing to combine work and parental responsibilities.

Equally technology is equipping individuals to keep on working beyond traditional perceptions of retirement age. The stoic politician Gordon Brown once adapted the quotation “I have seen the future and it works” to say “I have seen the future and it is work”.

With ever-increasing longevity, financial planning will rightly come to be seen as more important than financial advice in maintaining savers’ standards of living.


The writing on the wall


HM Treasury has issued a new factsheet titled “Ways to save in 2017”, which describes Premium Bonds and the various forms of ISA but omits any reference to pensions.

A similar factsheet issued in 2016 contained no such omission, and this has prompted suggestions that the government may be seeking to position ISAs – and in particular the new Lifetime ISA - as a more attractive medium than pensions for retirement savings.

Apart from riskier investments such as Venture Capital Trusts, pensions are the only form of saving which provide tax relief on contributions, and the cost to the Treasury is massive. They also offer relief from National Insurance contributions and permit employer contributions. ISAs, by contrast, simply offer exemption from tax on the proceeds, plus a potential 25% bonus on Lifetime ISAs (‘LISAs’) at the age of 60.

Since tax relief on pension contributions is available at savers’ highest personal rates of tax, the current system favours the higher paid, which is inconsistent with the government’s aim of encouraging the less well-off to save for retirement.

There have been suggestions that a standard rate of tax relief of say 30% should be introduced (which would benefit 20% taxpayers) and even that tax relief on contributions might be scrapped altogether.


Lifetime ISA penalties deferred


The government has announced that the penalties resulting from the withdrawal of funds from LISAs before age 60 or for purposes other than the purchase of a first home will not apply until the tax year 2018/19. However, the Financial Conduct Authority has warned that these penalties would make LISAs unsuitable for anyone who might be likely to incur them


School fees planning


Parents wishing to give their children the benefit of a private education face startling costs. The average fee for a boarding school is over £30,000 a year for a single pupil, and for day pupils over £17,000. Then there are the costs of extras such as clothing and equipment.

After school, the costs of university education are considerable, and many parents are keen to assist their children to avoid the burden of student loans.

One way in which either parents or grandparents can provide for educational costs in a tax-efficient manner is to invest in an offshore investment bond. Because the insurance companies which provide these bonds are based outside the UK (though many are subsidiaries of UK companies) their products enjoy special tax treatment.

If £100,000 were invested in an offshore bond, this could be divided into 1,000 segments of £100 each so as to facilitate part-disposals. The bond would be transferred into a bare trust of which the parents would be the trustees and the child or grandchild the beneficiary.


HMRC’s ‘snooper computer’


The ‘Connect’ computer system created by HM Revenue & Customs to assist in identifying people who are paying less tax than is due is being used for the first time in the current tax year.

Instead of relying purely on information provided by taxpayers through their tax returns, Connect draws from many government sources, banks and other financial institutions to produce a composite picture of taxpayers’ financial affairs.

Sources include credit card companies, telecoms companies, Airbnb, eBay and the Land Registry, through which property sales and purchases can be tracked and further links revealed to data on letting arrangements. Questions of affordability and the source of funds may then be raised.

Discrepancies between the resulting figures and what has been declared will be investigated, and 10,000 letters have already been sent to taxpayers in relation to the tax year 2014/15.

The so-called ‘snoopers’ charter’, which enables such surveillance, is not confined to the UK. HMRC can also access information from the authorities in 60 overseas countries.


Bank of England loose cannon


In the past the Bank of England has usually confined its public utterances to periodic pronouncements from the Governor, and has disdained to engage in populist discussion. However, its chief economist, Andy Haldane, has recently broken cover, with results which do little to enhance the Bank’s reputation.

Last Autumn, Mr Haldane admitted that he did not understand pensions, and he subsequently underlined his ignorance by suggesting that property represented a better method of providing for retirement than pensions.

In his latest comments, Mr Haldane has succeeded in antagonising members of his own profession (or is it an art or a science?) by effectively apologising for the Bank’s doom-mongering in advance of the Brexit vote and saying that economists’ predictions are often wrong.

Bare trusts are tantamount to gifts. The beneficiary has an absolute right to the assets held in the trust, but can only exercise this right when they reach the age of 18. Meanwhile the parents act as nominees for the child.

The funds held within the bond would be invested in a suitably diversified portfolio, and when the educational fees became payable the trustees would encash an appropriate number of segments. Tax on whatever investment growth had accrued would be assessed on the child, who would normally be a non-taxpayer.

The gain could be offset against the child’s personal tax allowance, which is currently £11,000 p.a.. The child would also have the benefit of both the £5,000 starting tax rate for savings income and the £1,000 personal savings allowance.

For optimum tax-efficiency the gift should be made by a grandparent, because income in excess of £100 p.a. received by minor children  which arises from gifts made by parents will be regarded as the parent’s income for tax purposes


 Past performance is not a guide to the future. We would always stress that the value of an investment as well as any income derived can go down as well as up. This document does not constitute personal advice; please contact us if you wish to discuss the suitability of any of the investments outlined.