IHT – Avoid but don’t Evade

It has been a frenetic few years for IHT mitigation.  Pre-owned assets tax (POAT) in 2004, the taxation of trusts in 2006, false promises by the Tories in 2007 and a major fall in asset values in 2008, have all kept taxpayers and financial planners well and truly on their proverbial toes.

Now Alastair Darling’s pre-budget report (PBR) has thrown yet another cat amongst the pigeons.  The double whammy this time is the removal of a previously legislated increase in the Nil Rate Band/NRB (under the Finance Act 2007, the personal nil rate band was due to rise to £350,000 in April 2010, but it will now stay at £325,000) and an attack on some specific strategies which have been using legislative loopholes relating to trusts.

Some commentators have speculated as to whether Darling’s comments in the PBR, about future legislation regarding trusts, spell the end for IHT mitigation as we currently know it.  In fact HMRC has no desire to upset conventional IHT planning using long-accepted trust-based solutions – all of which were brought into the taxable ‘relevant property’ regime in the Finance Act 2006.

HMRC and the Treasury remain fair and even-handed in their approach to collecting IHT.  All absolute gifts, at any level, remain potentially exempt transfers (PETs), whilst chargeable gifts to the full extent of the taxpayer’s NRB can be made every 7 years without any tax being incurred.  Furthermore regular gifts of any amount, from surplus after tax income, are immediately exempt.  All of these facilities remain, as do the various long-established trust schemes that have been available over the last decade and more.  It is flagrant abuse and the exploitation of inadvertent loopholes which is being attacked in forthcoming legislation.

As Nick Chadwick (well-renowned architect of some of the signature IHT mitigation schemes of the last two decades) recently explained to me “the acceptable spirit of tax avoidance has to reside within the house of fair play as secured in case law. Thereby evolving rules, where the law is inevitably silent on many issues, offer no protection from retrospective legislation at worst and swift blocking at best. HMRC will give confirmation of schemes that fall within the acceptable spirit of IHT avoidance. Failure to obtain this will be fatal for some providers, sooner or later”.

There are many conventional trust arrangements available, now and for the foreseeable future, which permit taxpayers to efficiently remove assets from their chargeable estates, whilst maintaining suitable ongoing flexibility for both themselves and their beneficiaries. There is therefore little need to seek out schemes which operate outside the confines of acceptable tax mitigation.

By far the bigger problem is the inertia suffered by many potential IHT payers who still seem to think this tax will somehow either mysteriously disappear or their estate values will be overtaken by the Tories enhanced NRB.  It should be clear to everyone at this point that for the foreseeable future there will be no appetite for either reducing or eliminating the impact of what is still seen as a wealth tax.  Not only does the ongoing budget deficit make it a non-runner but current public ambivalence toward MPs, bankers and others perceived as wealthy and privileged makes the easing of Inheritance Tax politically unthinkable.

George Osborne recently admitted on the Andrew Marr show that the Tory ambition to substantially raise the NRB was now pencilled in for later in their term of office.  But if New Labour can reverse actual enacted IHT legislation after only 2 years we surely know what expediency to expect from the Tories during their own turn in government.

With asset values likely to continue their recovery over the next year or two the business of carefully planned and executed IHT mitigation (particularly taking full advantage of somewhat depressed current values) is likely to blossom once more.  But be warned; HMRC will take an increasingly dim view of those attempting to exploit schemes operating on principles which rely on “reading between the lines” of existing tax legislation and are against the spirit of the law.

The two recently closed loopholes related to the purchase of (exempt) interests in excluded property trusts and the absolute gift (and therefore potentially exempt transfer) of retained reversionary interests within trusts. 

The first of these permitted a purchaser to buy (exchange taxable cash for) an exempt family interest in an exempt trust, thereby removing any future potential IHT charge from that value.  The second loophole involved the immediate and absolute gift of a retained reversionary interest which had already benefited from a discount to its value.  In this arrangement the taxpayer used a two step process to convert an otherwise chargeable gift into a combination of an initial small chargeable gift swiftly followed by a larger potentially exempt transfer.

In conclusion then, with the Tories recently announcing, that based on their analysis of ONS statistics in the newly published ‘Wealth in Britain’ report, some 4 million taxpayers are still likely to incur an average IHT bill of £60,000 (Guardian newspaper 29 December 2009) there is no time to lose.  Help your clients avoid this heinous tax by engaging in good down-to-earth IHT planning including, where necessary, the use of one or more of various highly-effective but conventional trust-based mitigation arrangements which remain available.

Paul Wilcox,
Chairman & Technical Director, WAY Group.

Posted on 22nd January, 2010 | Tags: IHT Mitigation |
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Still strong reasons to run adviser funds

New guidelines on distributor influenced funds are designed to ensure customers are treated fairly and should not prevent advisers from offering their own portfolio-style collective funds.

Access to financial advisers’ own portfolio-style funds can bring benefits for clients. I outlined these benefits in a previous article, which struck a chord with a number of discretionary investment managers, some of whom already run such funds and many who do not but would like to.

Several firms have expressed concerns about the cost, inconvenience and responsibilities of taking this path, as well as the imminent impact of the retail distribution review (RDR) and the alleged negative attitude of the Financial Services Authority (FSA) towards ‘distributor influenced funds’ (DIFs).

Having been involved with DIFs since 1991, I am an avid fan of delivering discretionary investment management to clients via the most effective means: collective investment. What I mean here is delivering sound, bespoke, portfolio-style management via the most cost-effective and tax-effective route by pooling clients’ assets into collective funds.

One size does not fit all, so you will have to supplement this approach by:
(i) having more than one single strategy (fund) to suit different risk appetites and possibly capital and income objectives;
(ii) being prepared to supplement such core solutions with more specialised investments to finely tune each client’s individual portfolio solution.

Two advantages of adviser funds
There are two key arguments for clients entrusting their investment funds to their advisers’ own portfolio-style funds. First, there is far more accountability: the client can meet face-to-face with a good local and personal investment team for regular reassurance about the style and substance of the management.

Second, a good portfolio manager is not the same as a good fund manager. A portfolio manager is running portfolio substitutes and therefore has a keener eye on the overall risk aspects of managing the client’s money. A specialist fund manager works to tight specifications of where they can invest and to what extent they need to maintain liquidity.

The most recent regulatory changes have allowed collective funds to mix and match underlying funds and direct equity investment, and to blend a much wider range of asset classes. This means contemporary portfolio-style funds can effectively mirror and replace virtually any bespoke portfolio.

The right firm for the job
Several firms service the third party fund market. Some are investment management firms, which tend to have more empathy with their guest managers, and others are administration companies, which focus on large scale administration activities. Either type of firm is likely to be able to guide new entrants through the steps needed to establish their own funds.

Whether a firm should embark on this is broadly down to a handful of criteria:

* Are they authorised to perform discretionary management or do they have an associate company who is?

* Do they have sufficient clients and assets under management to make the establishment of such funds a viable proposition for all parties, especially the clients themselves?

* Is there adequate understanding of the regulatory issues involved in running such funds?

* Are such funds likely to survive the commission-free/remuneration policies expected from the final guidelines to come out of the RDR?

* Do the funds comply with FSA guidelines on DIFs?

Support network is growing
A new trade association for companies associated with running their own portfolio-style funds, the Investment Funds Association, is a source of contact and support for its members and a centre of influence with the regulator. The nascent body (ifassociation.co.uk) has a growing membership that includes service providers, and many advisers who run their own branded portfolio-style funds. It may well become an essential forum for parties interested in this sector of the funds industry.

The target of regulations
The FSA has made it clear that its new guidelines on DIFs are not aimed at fund managers, collective scheme operators or private client investment managers whose investment management is central to their business proposition. These groups are already well regulated. They may be affected by the guidelines on DIFs, however, if their appointment as manager or their ongoing investment approach or accountability is under the control of the distributor of the funds in question.

The guidelines focus on several areas of responsibility that together ensure advisers are treating their customers fairly. In essence an adviser must be demonstrably competent, will be aware of, and will manage, any conflicts of interest, is obliged to be independent and deliver only suitable solutions, and must communicate all of these considerations to the client. Included in these issues will be those relating to costs and remuneration.

If this sounds off-putting then take heart: what is genuinely in the best interests of clients will undoubtedly pass muster with the FSA.

Nothing to fear
Regulation on DIFs is there to assist and protect clients and not to deny them the most effective and contemporary investment management solutions.

The regulator has an unenviable task of weeding out the incompetent, unethical or lazy among us. The competent, professional, ethical and conscientious adviser has nothing to fear.

The establishment of well-managed, portfolio-style collective funds will be a major benefit to all participants, advisers as well as clients.

Paul Wilcox,
Chairman & Technical Director, WAY Group.

Posted on 10th December, 2009 |
Comments: One Comment

When is a fund a portfolio?

Advisers’ own label funds are highly tax efficient
Clients who invest into IFA firms’ own-label portfolio-style collective funds can gain freedom from capital gains tax on their returns as well as keener pricing and the ability to mix and match funds.

When is a fund a portfolio?
Peter and Mary Singer are recently retired and have been taking advice on how to invest their surplus savings which, of course, includes tax-free lump sums from both Peter’s and Mary’s pensions.

Their adviser works within a major IFA firm which has its own fund management company offering discretionary investment management to clients such as the Singers. They have been advised to place a large part of their available funds within the firm’s own portfolio style collective funds with a smaller proportion directly invested in specialist funds and shares. They are concerned as to whether they are being shepherded into a fund which is as much for the benefit of the adviser as it would be for them.

This is an interesting dilemma which in some ways is part of the focus for the FSA’s current work on the much heralded Retail Distribution Review (RDR) and their recent thoughts on the merits or otherwise of ‘Distributor Influenced Funds’ (DIFs).

The answer lies in provenance
Following the 1980s scandals surrounding broker bond funds it would be lazy to simply write off ‘own label funds’ as yet another self-interested money-making idea for adviser firms. In fact in almost all cases this would be an incorrect assumption. To put these portfolio-style funds into context we need to follow their provenance from the discretionary investment services which have existed for more than a century, to their current highly contemporary manifestation.

It was traditionally the stockbroker to whom investors turned and the stockbroking community has a long history of managing individual bespoke portfolios for wealthy investors. The benefit of bespoke services was that each investor’s own requirements could be satisfied, by an individually-tailored selection of investments making up a personal portfolio. Furthermore the client was in direct personal contact with their stockbroker and was able to derive confidence from the personal nature of the relationship. Going back one hundred years or more the whole industry worked in a more leisurely and controlled manner than hitherto, commensurate with the limited speed of communications and administration of the day. In spite of increasingly volatile markets throughout the 1920s and 1930s, the manner in which these services operated continued undisturbed.

Sea change in control
It was only in the 1980s that a major sea change occurred following Margaret Thatcher’s removal of exchange controls in 1979. Investment managers then had increasing access to the international markets in order to buy shares in successful companies from across the world at the forefront of the new age of globalisation. This coincided with the information age when computerisation and global media access changed the investment scene forever. From that point on it became extremely difficult to operate effectively as a private client stockbroker whilst holding oneself out as an investment manager. Each of those jobs became so specialised that it was impossible to do both well. Either you were a client-facing stockbroker or you were a specialist investment manager. This demarcation has fed through to the typical high net worth advisory firms of today, whether stockbrokers or financial advisers, and the person you see for advice is generally the GP who within the practice employs investment specialists to actually manage client portfolios.

Own-brand portfolio evolution
All very interesting, but the relevance of ‘own brand’ portfolio-style funds is a direct consequence of this evolution and the various factors behind it. I remember managing over 700 individual discretionary portfolios back in the 1980s in the build-up to the market crash of 1987. When a change of direction was called for, my colleagues and I trawled through every single portfolio marking out the necessary re-balancing prompted by our strategic decisions. This certainly meant that every client received our individual attention but the process was fraught with stress and difficulty.

I recall many times when we worked through the night, collating all the dealing which we deemed necessary and which, in an ideal world, we should probably have done a day or two earlier had our systems allowed it. The problem was that any decision, say, to reduce exposure to Japan, which had fallen some 12%, in favour of an opportunistic exposure to Hong Kong, which had fallen more than 50%, involved a real decision on each client’s individual portfolio. This was because every single client had a slightly different Japanese exposure, depending on when they joined the service and which Japanese funds were favoured at the time. This scramble to re-balance portfolios rarely involved an examination of each client’s Capital Gains Tax (CGT) status because there just was not enough time to take that into account. This could always be justified by not allowing the ‘tax tail to wag the investment dog’.

The rise of the model portfolio
The result of that 1980s stockmarket fallout was a move by investment managers to convert these bespoke portfolios into ‘model’ portfolios, where clients with similar objectives and attitudes to risk held identical but suitably scaled portfolios. These were then deliberately managed for investment results and CGT was put to one side. With this new ‘model’ approach every single portfolio could be re-balanced in a trice because they were identical and could be managed via a simple spreadsheet.

Then in 1991 the unit trust regulations were changed, to allow collective funds which contained other collective funds to operate on a commercially viable basis. This was the penultimate step in the evolution of unitised portfolio management via portfolio-style funds. Compared with the evolved ‘model’ portfolios these new collective portfolios offered far greater economies of scale, much keener pricing (because of greater bargaining power) and complete freedom from CGT on underlying management. My firm ‘share-exchanged’ most of those 700 portfolios spread across three ‘models’ into three newly-constituted unit trusts launched specifically for that purpose.

The most recent changes to regulations have allowed collective funds to mix and match underlying funds and direct equity investment, as well as to blend a much wider range of asset classes. This means that contemporary portfolio-style funds can now comprehensively and effectively mirror and replace virtually any (far less efficient) individual, bespoke portfolio.

Trust in financial advisers
There may be very good reasons why the Singers should seriously entertain the advice of their financial adviser. The first is that a good local and personal investment management department can be met and ‘eyeballed’ by the client to offer regular reassurance about the style and substance of the management – there is far more accountability.

Secondly a good portfolio manager is not quite the same as a good fund manager. The portfolio manager is running portfolio substitutes and therefore has a keener eye on the overall risk aspects of managing the client’s money. The specialist fund manager works to very tight specifications regarding where they can invest and to what extent they can protect their funds by going liquid (the majority of specialist funds require the manager to remain relatively fully invested within their specialist area since that is the objective of the fund as specified in the prospectus).

A word of warning regarding the current obsession with performance tables. Do not be tempted to buy a portfolio-style fund based on performance tables. The job of a portfolio-style fund is to deliver safe and competitive ‘portfolio’ performance.

This means that individual constituents of the portfolio (the underlying holdings) need to be competitive within their own sectors, from a performance perspective, but the overall portfolio itself is meant simply to offer a sensible and rounded financial lifestyle solution.

Paul Wilcox,
Chairman & Technical Director, WAY Group.

Posted on 9th October, 2009 | Tags: Capital Gains Tax, CGT, IFA |
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Plan for the worst!

Hope for the best but plan for the worst! Most folk like just enough uncertainty to keep life interesting but not so much as to make them over-anxious. Unfortunately, the current environment puts many people in the second camp.

We are currently facing a ‘flu pandemic and whilst most of us logically know that the chances of it affecting us very badly are relatively slim, we still hate the suspense of waiting our turn at the snuffles. This feeling is exacerbated by the Press, especially when they splash all over the newspapers that yet another apparently healthy individual has (sadly) died from swine ‘flu.

In the wider world the economic and stockmarket uncertainty is also corrosive. Unemployment is rising fast and has a long way to go yet, public sector, corporate and private debt levels are testing and house repossessions and bankruptcies are likely to continue heading northwards. A prime example is the news emanating from Lloyds TSB, which is releasing all its bad employment news incrementally (hoping we won’t notice the big picture). Its recent announcement, which takes target group redundancies above the 8,000 mark, is unlikely to be its last.

And again, the Daily Mail recently reported that senior Tories are now privately admitting that the aspiration to raise the inheritance tax threshold to £1 million and scrap stamp duty for first-time buyers on homes worth up to £250,000 may be delayed because of the recession. One could say that Ken Clarke had already let that particular cat out of the bag in March but it was vehemently denied by the Cameron camp at the time. Personally, I am old enough to know that very few new governments fulfil their manifesto promises made whilst in opposition – and quite understandably so, since they construct their manifestos on grand assumptions which are often far from the subsequently discovered truth (once they actually see the books)!

This leaves investors very poorly served, especially those more elderly and wealthy individuals who should be tackling their Inheritance Tax (IHT) situation sooner rather than later. As one of my oldest and longest-standing friends likes to say: “Hope for the best but plan for the worst.” This is what I would recommend to all those taxpayers who are worrying about whether they should take action to avoid or reduce IHT.

Yes, you should take action. Take all the various steps you need to reduce your potential tax, including getting the 7 year clock ticking now and/or lending financial assets to specialist trusts at currently depressed values. If it subsequently transpires that the planning is not needed then any carefully considered planning can be effectively unwound. Using the right vehicles will incur little extra costs beyond the standard costs associated with establishing any other kind of investment strategy. This warning may sound alarmist but the uncertainty over IHT will be with us for at least another year – until the next General Election – and even then the news is likely to be negative for many years to come. And especially so at a time when there will have to be massive cuts in public services and across the board tax increases to re-balance the nation’s books.

The bigger uncertainty at the moment for most people is the state of the UK economy. Recent stockmarket rises would seem to imply that the recession is all but a thing of the past. And yet many serious pundits are warning of much worse to come. Logic does appear to suggest that the combination of sky-high debt levels across the public, corporate and personal sectors and the delayed effects of the economic slump have not fully worked through the system. With banks still re-building their balance sheets (and likely to continue to do so for some time), lending is not going to improve any time soon. Whilst many individuals and companies have been able to manage their deficits over the last year one can imagine that a continuation of the current credit and earnings drought will eventually take its toll.

My own view is that this cycle will, just as with every previous cycle, pass and we will see recovery. The uncertainty for everyone is when that is likely to happen. With the banks apparently terrified to lend to property buyers, entrepreneurs or even established companies; with southern and eastern Europe all on the verge of bankruptcy; with UK unemployment likely to sail through the 3 million mark leading to more distressed debt and property repossessions; with most stockmarket companies likely to slash dividend rates over the coming months and with the threat of a return of inflation just around the corner, the uncertainty will continue until at least the autumn and probably a great deal longer.

It seems appropriate to end by reminding you again of my friend’s apt catchphrase: “Hope for the best but plan for the worst!” And to reiterate what I’ve already said elsewhere, that this is what I would recommend to all those taxpayers who are worrying about whether they should take action to avoid or reduce IHT. In fact, I would only add one rider to all of the above: “- and do it now!”

Paul Wilcox,
Chairman & Technical Director, WAY Group.

Posted on 28th August, 2009 | Tags: Financial Planning |
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Short-termism or Short-sightedness?

On a recent trip to Devon, I stayed in a small and rather delightful hotel run by its proprietor, an ex-City currency trader. One increasingly comes across ex-City or ex-financial services folk who have left the industry for one reason or another.

Over the last year this trend has been accelerated by firms ‘letting people go’ in droves. In many cases redundancies have been across the board and highly-skilled and experienced people have been forced out of longstanding and necessary jobs. This is particularly true in the areas of sales and client servicing which, in many companies, have been left decimated.

Unlike many other sectors of industry and commerce one of the main assets within financial services companies is the skilled biped. It is these creatures which create and retain the other main asset, funds under management.

I find this distasteful British redundancy cult more than strange because as we come out of recession it is precisely those front line staff which were recently ‘let go’ that will be most important to financial services companies in the upturn.

I would go further and suggest that even before any recovery – in other words whilst still in this major and damaging equity/investment recession – investors and their advisers need as much help and support, if not more, than at any other time. And yet at the slightest whiff of a downturn companies get the knives out and slash away at sales and client support teams. This was happening as early as last Spring before the recession had really started – no doubt by companies wanting to correctly second guess the market and be seen by shareholders and the stockmarket to be doing the right thing.

One has to ask why companies do this because it seems that in most cases it is superficial and short term whilst being extremely damaging over the longer term. Being at the helm of a company which is 12 years old I would be very loathe to lose a brilliant team that has taken more than a decade to put together and assimilate into our particular culture.

I remember coming out of the 2000-2003 bear market with a full complement within sales and client servicing (the senior member of which we recruited in the middle of the downturn). This allowed us to steal a march on most of our direct competition which emerged blinking into the sunlight in the Spring of 2003 quite unprepared and without adequate resources to capitalise on the ensuing recovery.

I am pleased to say that our shareholders remain committed to our long term growth and sustainability – playing the long game – and are prepared to sit out the short term vagaries that have plagued stockmarkets over the last decade.

This time I have been and remain of the opinion that the recession will be V-shaped rather than has often been the case, U-shaped. This is even more incentive to maintain optimal service levels and retain the talented staffing which is required to make the most of the prospective market recovery.

This attempt by slash and burn management to appease both existing shareholders and the stockmarket by trying to maintain profitability when revenues fall is generally at best ill-conceived and at worst downright dangerous. Unfortunately, almost regardless of these irrational and short term measures, and any impact they might have on their P&L, their share price will generally fall with the sector anyway!
Surely the better option is to plan for the long term benefit of the company, the shareholders and the share price?

Volatility as a result of a fickle market should not distract management from their long term goals and planning. We are constantly warning investors to think in the long term and so should we.

Most highly successful and longstanding companies have not grown by adopting such short term ’stop-go’ strategies. Of course, we all try to cut unnecessary costs during a recession but we should not cause ourselves lasting damage by permanently removing vital assets – our best people.

One of the most challenging aspects of contemporary life is the constantly increasing rapidity with which everything happens. This is largely the result of advances in speed and reach of the media as well as the continuing IT revolution. The irony is that with everything occurring at increasingly rapid speed there is little point in ’short-termism’ because the landscape will have changed by the time the ’short term’ measure has taken effect.

Unfortunately, we seem to be caught up in this senseless pursuit of instant but superficial gains. One of the most recent examples is the Government’s movements on higher rate Income Tax and the removal of the personal allowance for high earners.

This measure is destined to raise nothing for the country’s broken coffers in the short term, but will cause immeasurable damage to the economy in the longer term by removing the desirability of the UK as a place to do and locate business.

Looking around at the behaviour of most of the major financial companies over the last year I am at a loss to understand why they have put so many people through so much redundancy heartbreak when in very short shrift they will be recruiting once more as the markets take off.
In my view short-termism is generally better described as short-sightedness.

Paul Wilcox,
Chairman & Technical Director, WAY Group.

Posted on 26th June, 2009 | Tags: Economy |
Comments: One Comment

Is it a fair cop?

On the face of it the recent statement that ISAs are here to stay is good news for investors.  It means that savers can continue to put aside £7,000 each year into investments which are permanently exempt from Capital Gains Tax (CGT) and from higher rate Income Tax.  But how beneficial are these concessions?  Anecdotal evidence from some of WAY’s supporting IFAs indicate that a high proportion of PEP and ISA holders could easily hold and manage their investments perfectly well and effectively tax-free by utilising their existing annual CGT allowances.  Most are not higher rate Income Tax payers and so will not suffer any further tax on dividends/distributions.  So are they needlessly investing in PEPs and ISAs?

The only real beneficiaries of these tax-exempt investments are either (a) those taxpayers who invest in cash or fixed interest investments (not equities or mixed funds) and who benefit from exemption from standard rate Income Tax on those specific investments, or (b) higher rate taxpayers who are already utilising their annual CGT allowances.  For these two minority groups the continuing concessions are very good news.  WAY has many regular contribution ISA investors who are young, dynamic, higher-rate taxpayers saving into high growth funds for school fees and other medium term commitments, and doing so with the added benefit of pound cost averaging.

So far, so good.  What is rarely questioned, however, is whether these ISA savers should be taking any other considerations into account.  Is the ISA news all good or is there a potential downside?

By stealth tactics the Treasury is misleading investors into thinking there are substantial tax benefits in retaining PEP and ISA portfolios into one’s dotage, while simply ensuring that it can continue to collect large amounts of IHT from the unwitting and unprepared elderly investor.  In my view investors from their mid-sixties onwards who believe they will have an IHT liability should no longer be holding PEPs and ISAs.  What so many of them do not realise is that they will suffer a punitive IHT sting at death, whereby they and their families potentially lose a colossal 40% of their hard-earned savings.  This loss completely dwarfs the often marginal annual tax benefits resulting from the ISA wrapper.

Based on Office of National Statistics figures for holders of ISAs and PEPs, combined with our own research, WAY Group estimates that at least 165,000 elderly investors (aged 70 or older) are holding ‘tax-sheltered’ portfolios in excess of £100,000.  Based on published mortality rates this would mean that some £0.5bn, or one sixth of the annual total IHT tax take of £3bn, arises from IHT on PEPs and ISAs from this group!  This cannot be right.

I believe that there are substantially more then 300,000 investors across the country who currently hold substantial equities-based tax-free investments within their portfolios with no provision whatsoever for these funds to be transferred into alternative investment schemes which can mitigate the IHT. Over half of these investors – some 165,000 – of those with large tax-sheltered investments are aged 70 plus. This is the age group at the greatest risk of losing out on the tax-free benefits of their savings strategy.

So what can these investors do to avoid IHT on their accumulated savings?  The answer is simple, even after Gordon Brown’s Budget measures from last year.  They should encash up to £285,000 of their ‘tax-free’ savings and gift them to their chosen beneficiaries via a flexible trust.  Although gifts into such trusts now constitute an IHT taxable transfer there will be no tax so long as the gift is within the current Nil Rate Band for IHT – £285,000 per person.  Such gifts fall out of account after 7 years and so there is an opportunity for each taxpayer to make gifts up to this level every 7 years.

At age 65 the average investor still has a life expectation of some 16 years (males) to 19 years (females).  Even at age 75 these numbers are 9+ and 11+ years.  This means that any average investor has time to gift their former PEPs and ISAs completely IHT tax-free so long as they start shortly after their mid 60’s.  The real benefit of the tax exemptions associated with PEP/ISA portfolios is that when this IHT mitigation exercise becomes appropriate the targeted funds can be surrendered entirely tax-free at that point, making investment in an IHT mitigation plan that much more effective.

WAY offers a comprehensive range of IHT mitigation arrangements, uniquely offering both unit trust based and offshore bond based plans.  These are further subdivided between flexible and discounted schemes whereby trustees have a great deal of flexibility in making financial provision for both donors and beneficiaries.

A simple recent example illustrates the benefit of this approach.  The lady in question was a fit and healthy 73 year old widow.  She and her late husband had bought their ex-Council house under the ‘right-to-buy’ scheme and the rump of the mortgage was paid off from her husband’s PEPs and ISAs.  The table shows her circumstances both before and after swapping her PEPs and ISAs for a combination of flexible and discounted schemes from the WAY stable.  She has a life expectation of some 13 years but only needs to survive 7 to remove the gift into trust from her estate.  Assuming she does live those 7 years then she will have virtually removed IHT from her estate.  Even were she to live less than 7 years then her net IHT liability would be substantially reduced as a result of moving her funds.  Moreover her income is maintained and, via her trustees, she retains tremendous flexibility over the future return of funds from the flexible trust.

Paul Wilxox,
Chairman & Technical Director, WAY Group.

Posted on 19th June, 2009 | Tags: Capital Gains Tax, Higher Rate Income Tax, IHT, ISA, ISA Savers, Life Expectation, PEPs |
Comments: One Comment

Darling incentivises the wrong investors

Margaret Coles is a fit and healthy 73 year old widow.  Her late husband used his Inheritance Tax Nil Rate Band by leaving a holiday property to his children. She remains fairly well off with a house, various investments including an ISA portfolio, a healthy sum on deposit and two pensions.  Her son, Raymond, helps his mother to manage her financial affairs and has suggested she take immediate advantage of the new ISA limit for older persons announced in Alastair Darling’s recent Budget. He thinks there will be a stockmarket recovery within the next few months and believes she should capture the maximum benefit by adding to her substantial ISA portfolio by investing her 2009/10 ISA allowance now.

The primary benefit of placing investments within an ISA ‘wrapper’ is that they are then permanently exempt from Capital Gains Tax (CGT) and from higher rate Income Tax. But how beneficial are these concessions in general and, in particular, to Mrs Coles? Anecdotal evidence from advisors indicate that a high proportion of ISA holders could easily hold and manage their investments perfectly well and effectively tax-free by utilising their existing annual CGT allowances. Most ISA investors, such as Mrs Coles, are not higher rate Income Tax payers and so will not suffer any further tax on dividends/distributions. So, are they needlessly investing in ISAs?

The only real beneficiaries of these tax-exempt investments are either:

•  (a)those taxpayers who invest in cash or fixed interest investments (not equities or mixed funds) and who benefit from exemption from standard rate Income Tax on those specific investments, or
•  (b)higher rate taxpayers who are already utilising their annual CGT allowances.

For these two groups the continuing concessions are very good news. In particular young, dynamic, higher-rate taxpayers saving on a monthly basis into high growth funds for school fees and other medium term commitments, and doing so with the added benefit of pound cost averaging, are likely to benefit most. Whilst Mrs Coles is interested in boosting her flagging income, which has fallen with interest rates over the last year or so, she is certainly not in the second group. Even in her search for income the benefits of Income Tax relief on currently miniscule yields are not great.

In reality the Treasury is actually misleading naïve investors into thinking there are substantial tax benefits in retaining ISA portfolios into one’s dotage, while simply ensuring that it can continue to collect large amounts of IHT from the unwitting and unprepared elderly investor. Arguably investors from their mid-sixties onwards who believe they will have an IHT liability should no longer be holding ISAs and certainly should not be buying more. What so many of them do not realise is that they will suffer a punitive IHT sting at death, whereby at the top end they and their families potentially lose a colossal 40% of their hard-earned savings. This loss completely dwarfs the often marginal annual tax benefits resulting from the ISA wrapper.

So what can Mrs Coles do to avoid IHT on her accumulated savings? The answer is simple, she should encash her ‘tax-free’ ISA and supplement the proceeds to a total of £325,000 by selling a portion of her stockmarket investments and then make a gift of the total sum to her chosen beneficiaries via a flexible reversionary trust. Although gifts into such trusts constitute an IHT taxable transfer there will be no tax so long as the gift is within the current Nil Rate Band for IHT – £325,000 per person.

Such gifts then fall out of account after 7 years and so there is an opportunity for each taxpayer to make gifts up to this level every 7 years. Mrs Coles has a life expectancy of some 13+ years and so should easily survive the first 7 year inter vivos period and might even survive a second. Even should she not survive to see her gift fall out of account, any growth (recovery) enjoyed by the gifted assets will occur outside her chargeable estate.

A good flexible IHT gift trust will offer Mrs Cole’s trustees extraordinary ongoing flexibility over the trust whereby she can be supported with regular or occasional ‘reversions’ to top up her conventional income. In her case she will certainly need to replace income from her surrendered ISAs (Capital Gains Tax exempt) and part of her share portfolio (which she was able to dispose of within her annual CGT allowance and without incurring Capital Gains Tax).  Since the assets will have been placed within a gift trust then it is proper that drawings or reversions from the trust should be made available to replace that sacrificed income. The trust wording is sufficiently flexible to also allow the trustees to continue to look after the needs of her children and grandchildren in exactly the same kind of way as before the gift.

Assuming she does live those 7 years then she will have dramatically reduced the potential IHT liability on her death.   Moreover her ‘income’ is maintained and, via her trustees, she retains tremendous flexibility over the future return of funds from the flexible trust.  The table shows that at current levels her family is likely to benefit from a tax saving of some £130,000 which completely dwarfs any conventional’ benefit she is likely to receive from her ISAs.

 

Paul Wilcox
Chairman & Technical Director, WAY Group.

Posted on 24th April, 2009 | Tags: Budget 2009, IHT, IHT Mitigation, Inheritance Tax Nil Rate Band, ISAs |
Comments: One Comment

Ken Clarke fails to stop Cameron and Osborne committing election suicide

In September 2008 I penned a piece about what I then thought was the likelihood of the Tories following through on their 2007 pledge to increase the personal Nil Rate Band (NRB) for Inheritance Tax (IHT) to £1 million.

The question of increasing the NRB was raised again with Ken Clarke on Sunday 22nd March 2009 by the BBC.  He responded by saying that ‘cutting inheritance tax would not be a high priority for an incoming Tory government’.  He went on to confirm that the Tories were still committed to increasing exemptions on IHT but that the current financial conditions meant that the ambition to increase the band to £1 million was now considered to be an ‘aspiration’.  In a later partial retraction he said ‘we are fully committed to raising the threshold for inheritance tax in the first parliament of a Conservative government.  This measure will appear in the manifesto and I support it.  We also agree that George Osborne cannot write his first budget until we have seen what we have inherited’.

On Monday 23rd March this view was refined again by a statement that confirmed that in future ‘only millionaires would pay Inheritance Tax’.

It is clear from these exchanges that my earlier suspicions that Osborne’s original intention of moving to a £1 million NRB were effectively scuppered by Darling’s inspired move to make the NRB transferable.  By avoiding any specifics over recent days it seems that the Tories are, quite understandably bearing in mind the deterioration in the economy and in government finances, leaving themselves wriggle room.

In the longer term I suspect that the Tories will either, (a) increase the personal NRB to £0.5 million and retain the new transferability rules to give every couple a joint allowance of the promised £1 million, or (b) increase the personal NRB to £1 million and remove transferability. 

However, in the short term I do not think that any major moves are likely because of the state of government finances.  It is more likely that any move towards either of the above scenarios will be made incrementally over a number of years.  The background environment has changed dramatically between 1st October 2007, when Osborne made the ‘commitment’, and today and I do not believe the electorate will accept moves to benefit the ‘wealthy’ during a period when all taxpayers are likely to be hit hard in an attempt to rebuild government finances.  As David Cameron pointed out only last week, the ‘wealthy’ will have to pay their ‘fair share’ during the economic downturn.

With asset values well down, inflation about to turn into deflation and unemployment forecast to hit 3 million in the coming year, the public will feel there is little justification at this moment for taking the wealthy out of any form of taxation!

Changes in Wealth and changes in Public Sentiment – 1st October 2007 to late March 2009
	Oct 2007	Latest 2009	Change
FTSE 100	6,506	3,843	-40%
Average House Price (Nationwide Index)	186,044	147,746	-20%
Inflation (ONS)	4.2%	0.1%	-4.1%
Bank Base Rate (Bank of England)	5.75%	0.5%	-91%
Unemployment levels (ONS)	5.2%	6.5%	+25%
Movement in unemployment since 1997 (ONS)	Lowest	Highest

 

 

Paul Wilcox
Chairman & Technical Director, WAY Group.

Posted on 23rd March, 2009 |
Comments: Have Your Say

Humanitarian Aid is in our hands

Returning from Australia late in January we avoided travelling for 26 hours non-stop by taking a two day stopover in Dubai.  Having spent a miserable time being monsoon rained upon for days on end in the Whitsunday islands (discovered by James Cook, British navigator on Whit Sunday in 1770 – us Brits are nothing if not logical, albeit somewhat unimaginative) we were determined to have some last minute sun before returning to our cold and snowy shores.  Five o’clock in the morning approaching touchdown at Dubai’s new airport terminal the pilot announced that for the first time in several months it appeared to be raining in Dubai.  I was beginning to take things personally.

We had last been in Dubai just a year ago, en route to another sunspot, as we have tended to do.  It is a great stopover with good hotels, generally reliable weather and a relaxing environment to bridge the gap between 24/7 holiday and the realities of home.  We stayed, as per normal, at the Hilton Jumeirah Beach hotel just along from the ‘sail’ of the famous Al Burj.  Ten years ago this hotel stood in splendid isolation on Jumeirah beach, with unspoilt views in every direction.  Today its ten stories are completely dwarfed by the rows of 40-50 storey beachside apartments which line the new promenade directly across the road from the hotel.  We have watched these apartments being built over recent years and have been fascinated by the working practices employed by the local building companies.

 Allegedly because of the heat they run their building sites 24/7 bussing in hundreds of workers three times a day for each eight hour shift, day and night.  There has been a great deal of controversy about the extremely tough conditions endured by building workers in Dubai, most of whom come from places like Bangladesh or Pakistan.  This year we walked around all the new developments and there is no doubt that progress has slowed a great deal.  There are plenty of ‘immigrant’ workers but their numbers are vastly reduced from previous years.  The global credit famine is hitting Dubai hard.

 With a tiny Emirati population and a large but quickly shrinking ex-pat community one wonders who is going to buy the thousands of properties being built.  Most residents of Dubai (between 80% and 90% are ‘visitors’ working on short term visas) are male and working to support families elsewhere.  With the economy going through a tough time many are losing their jobs and leaving the country.  At the same time property investors around the world are pulling in their horns.  This leaves Dubai property companies selling off luxury villas and apartments at massive discounts.  Maybe more important, however, is the fate of the erstwhile imported labour who, whilst earning a pittance by western standards, relied on their sparse income to support their families in some of the poorest parts of the world.

 This reminds me of some research trips I took several years ago which later led to many heated dinner table debates about capitalism and exploitation of labour.  This has become a major social issue in the intervening years.  I visited a huge clothing factory in Bangkok in the 1990s which made women’s fashion clothes for companies like Top Shop and Marks and Spencer.  I remember visiting the quality control department run by ex-pats on behalf of M&S.  This factory employed young teenaged women who, allegedly, supported their families (who mainly lived in pretty awful conditions on the banks of the river).  They earned very little by western standards but were all nattily dressed in jeans and t-shirts or blouses, wore watches and jewellery and, bearing in mind the daily challenges of their lives, were of a surprisingly cheerful disposition.  Whilst there were no obvious abuses of workers in this particular workplace, the whole area of exploitation of poorly-paid workers in third world countries has become an ongoing scandal in contemporary life.  Even in the buoyant economic times pre-2007 the moral tensions between possible abuses on the one hand and offering people a means of climbing out of destitution on the other, were difficult to unravel.  How much more difficult is it now?

 The Financial Times recently reported (2nd February 2009) ‘more than 20 million rural migrant workers in China have lost their jobs and returned to their home villages or towns as a result of the global economic crisis, government figures revealed on Monday.  The job losses were a direct result of the global economic crisis and its impact on export-oriented manufacturers, said Chen Xiwen, director of the Office of Central Rural Work Leading Group.  He warned that the flood of unemployed migrants would pose challenges to social stability in the countryside’.

 It is a similar story across many of the poorer countries of the world.  Most of these ‘redundant’ workers have no state safety net, no social insurance, basically no hope.  And this is the awful thing about the current economic ‘crisis’.  We in the west are suffering from fear, and in some cases reduced incomes or even redundancy, but our very existence is not being threatened by this recession.  Around the world many thousands of people are facing starvation simply because western consumers have put a brake on their consumption.  Remember that something like 70% of world economic output relates to consumer spending.  No wonder economies around the world are suddenly in a mess.  We do not have to reduce our spending very much for the economy to come to a virtual halt and that is precisely what has happened. 

 As I wrote previously, the solution to this dilemma is in our hands.  Strangely there has still been no strong and charismatic leadership shown in this crisis.  I expected Barack Obama to galvanise the American people in his inauguration speech.  I expected Gordon Brown to attempt to hint at it in his speech to Congress when he recently visited Washington.  I have expected the right exhortations to come from the lips of some world leader somewhere in recent months!  But no.  The public will respond to an appropriate impassioned plea to take action to stamp on this recession.  It does not need VAT reductions.  It does not need tax rebates.  It does not need interest rate reductions (which takes spending power away from the grey economy where it is easiest spent).  It does not need public spending.  What it needs is a charismatic leader to explain to the public that they need to get back to leading normal fearless lives, where they resume their previous levels of sensible rational spending.  This will save the world.

 What the world needs now is a resumption of ‘business as usual’.  Otherwise the price to be paid by millions living in the world’s poorest nations does not bear thinking about.  Maybe we, as influencial people in our communities, should be spreading the word because it seems that no-one else is going to.

Paul Wilcox,
Chairman & Technical Director, WAY Group.

Posted on 20th March, 2009 |
Comments: Have Your Say

Once in a lifetime IHT planning opportunity

Anecdotal evidence seems to indicate that few advisers are working on Inheritance Tax mitigation at the present time and yet in reality the credit crunch has generated the most ideal environment for such planning for many years.  Whilst it is true that the transferable Nil Rate Band has taken a number of more modestly wealthy individuals out of the IHT trap, the number of taxpayers likely to pay this tax still appears to be substantial.  Of course, advisers are saying that their wealthy clients are more taken up with repairing their personal balance sheets (after the hits they have taken from the credit crunch and stock market rout) than they are with mitigating tax.  This is, however, a foolish approach since the credit crunch and its impact is temporary whilst the prospect of gifting one’s hard earned wealth to the Government is permanent.

I have been looking at house prices in London to get an idea of the temporary impact of the wealth destructive effects of the mortgage famine (which I believe is the real culprit in house price falls).  Looking at terraced houses, which represent the modest living accommodation of average Londoners, it seems that those living in suburbs like Camden, Fulham and Islington (even after recent substantial falls in values) still have properties worth in excess of a couple’s Nil Rate Band.  Meanwhile a couple living in Wandsworth have seen their terraced house fall from £620,000 down to £500,000.

 The other disincentive when considering IHT planning has been the dramatic falls in equity values.  During 2008 a massive 31% was wiped off the (FTSE 100) value of shares, a reversal not seen in any other year since the FTSE 100 was launched in 1984.

 These falls in personal asset values beg the question as to whether it is correct that taxpayers have become distracted from considering their potential IHT positions.  In my submission, whilst I understand the current concerns about rebuilding assets, there are very many reasons why taxpayers should be focusing on IHT mitigation at this very moment.  The main three, which I will cover individually are: (1) the seven year clock necessary to remove assets from one’s estate should be started as soon as possible; (2) the depressed value of personal assets at this time offers a ‘once in a lifetime’ opportunity to supercharge any such planning, and; (3) the availability of highly flexible schemes based on both unit trust portfolios and bonds means there is no reason to not put IHT mitigation in place as an additional benefit of normal portfolio planning.

The Seven Year Clock
Recent research (from WAY Group) indicates that taxpayers adopting IHT mitigation are doing so much later than they perhaps should to get best value from the seven year period it takes for asset transfers to fall out of one’s estate.  Men typically start planning at age 69 and women at age 72.  That leaves the average person with only one complete seven year period between starting IHT planning and when they are likely to die.  So the earlier one starts IHT planning the better to make sure one survives the seven year run-off period or even to enjoy more than one set of gifts (more than one seven year period).

Once in a lifetime opportunity
There is little doubt that today is a great time to be doing one’s IHT planning.  Why?  Because:

•         Proportionately one can remove far more from one’s estate today than a year ago, and probably in a year’s time, because of depressed values. Transfer now whilst prices are cheap.
•        There will inevitably be a recovery and assets will substantially increase in value.  Whilst nobody really believes the Halifax statistics for house price rises in January it does give some indication that there will soon be a bottom and then a recovery.  This is linked far more to the availability of mortgages (which disappeared for several months in 2008 and under Government pressure are now reappearing) than to sentiment.
•        We have seen the early green shoots of stockmarket recovery since the lows of last year and no-one should doubt the potential for a worthwhile recovery this year.
•        By moving assets into trust now, the resulting change in beneficial ownership will trigger a Capital Gains Tax (CGT) point, BUT at current depressed levels very few people will have to pay any CGT.
•         Any recovery in values, once assets are transferred, will conveniently occur outside the donor’s estate thereby saving substantial IHT on that extra value (IHT savings at 40% far outweigh any future CGT at only 18% on gains above the allowance).

With Government finances in a mess there are unlikely to be further cuts in IHT for the foreseeable future, regardless of which political party is in Government.  So there is an extremely strong case for those potentially liable to IHT to get the seven year clock ticking.

 No reason not to plan
Until a few years ago IHT planning involved putting on a financial straitjacket whereby putting assets beyond the reach of the tax man normally involved putting them beyond one’s own reach (other than possibly a fixed future ‘income’).  In addition, most traditional IHT arrangements were based on life assurance bonds and their often inconvenient attendant Income Tax status. 

 Those restrictive days have long gone and the IHT mitigation market has moved on very much in line with other contemporary developments in the investment management arena.  It is now possible to engage highly flexible trust arrangements in which trustees have extensive flexibility in passing benefits to the donor and/or beneficiaries as dictated by circumstances rather than simply by prescription.  In addition these arrangements can now contain the kind of managed portfolios investors would have held, in any case, had they not been planning for IHT.  It is now even possible for IHT-shielded portfolios to be managed on the most contemporary of investment platforms.

 The trust flexibility and investment options available today mean that the only argument for not placing an IHT mitigation trust around a client’s portfolio is the marginal extra cost of doing so which, even with trustee fees, normally works out at less than 1% per annum.

Advisers would be well advised to look afresh at contemporary IHT planning which is no longer a ‘magnum opus’ and simply represents a best practice ‘add-on’ for any portfolios managed on behalf of wealthy clients.

Paul Wilcox,
Chairman & Technical Director, WAY Group.

Posted on 13th February, 2009 |
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