LIFE ASSURANCE BONDS
These are policies issued in return for payment of a large single sum – upwards of £5,000.They include a nominal amount of life assurance and are effectively investments. A wide range of investment funds is available.
- It is possible to draw an income of 5% of the original capital from a life assurance bond for up to 20 years without any tax implications.The tax position on encashment can be complicated, but it is possible for high rate tax payers to arrange bonds so that additional tax is deferred or possibly avoided altogether.
- A disadvantage of such plans is that although the life assurance company will be paying tax on the internal gains in its investment funds, this cannot be recovered by non-taxpayers.
- Such investments are best seen as suitable for periods of 5 years or more, because although funds are usually available on demand, there are often penalties for early withdrawal.
- Nearly all “With Profits” bonds include a provision so that if you withdraw your money and the life company deems that you have received bonuses (the annual return that is added to your capital) above the value due to you from the underlying investment assets, your investment could be reduced by a “Market Value Adjuster”. If, on the other hand, the asset performance is ahead of the bonuses paid to date, you may get an extra or terminal bonus. Market value adjusters have been applied frequently in the recent past when there has been a period of decline in the UK stock market lasting over a year, or the market has fallen very sharply.
ISAs
ISAs are savings accounts for limited amounts of savings (the limits vary from time to time) which are either invested in stocks and shares, or in deposit accounts. Interest is not taxed and Capital Gains Tax is not applicable. There is no extra tax paid on dividend income, but tax credits cannot be recovered.
You can have both a stocks and shares ISA and a cash ISa at the same time, but you can only select one product provider for each type. The limits are renewed every tax year, so over time it is possible to build up a valuable portfolio of tax sheltered assets.
OEICs (Formerly Unit Trusts)
These are collective investment funds. A fund manager purchases and manages investmen
t assets, mainly stocks and shares, and organises the fund for capital growth, income or a suitable balance as stated in the fund’s written objectives. Individuals can buy units in the fund, or shares in the case of the newer OEICs (Open Ended Investment Company).The value of the units or shares goes up and down in direct proportion to the value of the underlying assets. In time, most unit trusts will be converted into OEICs.
- Collective investments are useful for the average investor who wants access to a diverse collection of investment assets at modest cost and who wants a professional manager looking after those assets so as to get the best return for a specified level of risk.
- There is a very wide range of unit trust and OEICs available and to simplify selection, they are classified by the investment industry into groups of trusts with roughly similar objectives (called “sectors”), such as UK Equity Income, International Equity and Bond, or North America.
- The investments may be a mixture of all types of stocks and shares, or a specific class, such as corporate bonds, overseas equities, or something very specialist like the income shares of split capital investment trusts.
- Comparing the performance of unit trusts should always take account of the characteristics of the funds involved, such as their objectives for income or growth, the level of volatility (which is how much they go up and down in value relative to the average similar investment), the
- investment sector and the size of the fund. In other words like should be compared with like and investment returns measured over a time scale that is appropriate to the investment objective.
- An investor with a larger portfolio (say over £20,000), may be advised to hold unit trusts/OEICs investing in different sectors that are not
- expected to move in the same direction if there are economic changes. Thus a portfolio may include a unit trust investing in European growth shares, but also a trust investing in fixed interest stock and another investing in Japanese companies.
NATIONAL SAVINGS
There are National Savings plans with fixed and variable interest rates and returns linked to the retail price index. Some plans pay tax free returns and some pay gross returns,
with no tax deducted at source. Special fixed term accounts are available for children, usually paying attractive rates tax free.
These products will be more or less attractive depending on the Government’s need to borrow from the public, which will influence interest rates, and the tax status of the investor.The tax free products may be especially attractive to high rate tax payers and the plans that pay interest gross may be attractive to nontaxpayers.
CASH DEPOSITS
Generally, direct postal or telephone accounts will offer the best rate of interest for money that needs to be available at short notice.These are offered by both the traditional building societies and newcomers such as supermarkets and life assurance companies.
Anyone moving money out of a mutual building society to a bank or insurance company should remember that they might lose out on mutuality benefits or even free shares if the building society demutualises.
STAKEHOLDER PENSIONS
These are individual pension plans that became available in April 2001 and are part of the Government’s push to make the provision of retirement benefits more widely available.Any UK Resident, whether a taxpayer or not, can pay up £300 per month into a a pension plan. For people with earnings from employment or self-employment, there are in addition very generous upper limits and broadly speaking up to 100% of earnings can be paid to a pension plan in any year. There is an overall monetery cap to annual contributions for high earners and a maximum lifetime level of funding permitted. The level of these quite generous overall limits is reviewed from time to time and details are available on request.
- The main attraction of Stakeholder pension plans is that they are run at very low cost – the only charge is an annual percentage of the accumulated fund – maximum 1%.They are also very flexible, with scope to change, stop and start contributions any time without penalties. Nearly all employers with more than 5 employees have to offer access to a company nominated Stakeholder pension plan and allow employees to make savings out of salary if they wish, although employers do not have to pay in any money themselves.
- The only disadvantages of these plans is that there will be some limits on the choice of investment funds and you may have to pay a fee to get detailed pensions and investment advice, because the plans are run on such small charges that financial advisers get only modest commission payments for setting up a policy.
- However, the Government has made available “decision trees” to help people make decisions about their pension needs without advice and these are always provided if you ask about joining an employer designated scheme.
- Most of the features of Personal Pensions, described next, apply to Stakeholder pensions, because Stakeholder pensions are legally just a special form of personal pension.
PERSONAL PENSIONS (PPs)
Personal Pensions are retirement savings schemes issued in the name of an individual.They are available to both employees and the self-employed.They are money purchase plans, which means that final benefits of pension and cash are based on the size of the accumulated fund at retirement and prevailing interest rates.
- Contributions are limited to a maximum of £300 per month or if greater, 100% of salary, and benefits are available at any time from age 50. After 2010, the minimum age increases to 55.
- PPs are totally portable and can be taken from one employer to another or from self-employment into employment and vice-versa. Most PPs now have charges that are no more expensive than Stakeholder pensions, but will be a little more expensive if more specialised investment funds are selected.
- At retirement, up to 25% of the fund can be taken as a tax-free lump sum with the remainder used to purchase an income, subject to tax under the PAYE system. Contributions to PPs qualify for tax relief, and once invested grow in a tax efficient way. It is possible to build in life cover, which enables protection to be obtained with tax relief.
- A variation on the PP is the self-invested personal pension (SIPP) which allows an individual a greater degree of control and flexibility in terms of scheme investments. It is this self investment option that is likely to make a personal pension more suitable than a Stakeholder pension for people who want to save large amounts, or who are transferring across lump sums accumulated from previous employment.
OCCUPATIONAL PENSION SCHEMES (OPS)
These are employer sponsored pension schemes established for the benefit of the employees.Typicallythey are established on either a “final salary” or a “money purchase” basis. Benefits under a final salaryscheme are based on salary and length of service at retirement while money purchase benefits are linkedto the value of each individual’s fund. It can be said of both schemes “that the longer you are in it, thebetter” but the final salary scheme is the only one with any form of promise.
- Most OPS come as part of a benefits package which can include lump sum and spouse’s pension benefitson death-in-service. As a result, nearly all employees would be best advised to join an employer’s scheme ifthere is one available.
- Many employers offer employees membership of a Group Personal Pension Plan which is simply acollection of individual personal pension plans into which both the employer and employee cancontribute. As such it is covered by the same rules as apply to personal pension plans.