Can’t fit all your investments into your ISAs and SIPPs? Then you’ll reduce your tax bill by following the first rule of tax-efficient investing:
Squeeze the most heavily taxed investments into your tax shelters first.
Happily, the pecking order for maximum tax efficiency is clear cut for most people.
Tax-efficient investing priority list
Shelter your assets in this order:
- Non-reporting offshore funds
- Bond funds
- REITs
- Individual bonds
- Income-producing equities
- Foreign equities (arguable)
To see why this sequence is tax efficient, let’s just tee up the relevant tax rates:
| 2023/24 | Income tax | Dividend tax | Capital Gains Tax |
| Tax-free allowance | £12,570 | £1,000 | £6,000 |
| Basic rate taxpayer | 20% | 8.75% | 10% |
| Higher rate taxpayer | 40% | 33.75% | 20% |
| Additional rate taxpayer | 45% | 39.35% | 20% |
(Note: From 6 April 2024 the dividend tax allowance is halved to £500 and the CGT allowance is cut to £3,000. Also note, these capital gains tax rates are for investments like shares. Capital gains on residential property other than your own home are taxed at 18% and 28% instead of 10% and 20%.)
At a glance we can see that income tax is the nastiest while capital gains tax (CGT) is generally the most benign. Your CGT burden can also be reduced by offsetting gains against losses.
So the plan is to shelter investments that are liable to income tax first, dividend tax second, and CGT third.
A few tax efficiency caveats to consider
Before we get into the guts of it, I’ve got to dish up some caveat pie:
- Interest is taxed at your usual income tax rate. Basic-rate payers have a £1,000 personal savings allowance, reduced to £500 for higher-rate payers and nil pounds beyond that.
- A few very low earners qualify for an additional band of tax relief on savings. Up to £5,000 of interest can be sheltered under the ‘Starting Rate for Savings’.
- If your interest, dividend income, or capital gains pushes you into a higher tax band then you will pay a higher rate of tax on the protruding part.
- In that situation, it matters what order you’re taxed in, so you can make the most of your tax-free allowances. The UK order of taxation is: non-savings income, savings income, dividend income, and finally capital gains.
- If you’d like a quick refresher on the tax-deflecting powers of ISAs and SIPPs, just click on those links.
- And if you’re not sure which is best for saving then try our take on the ISA vs SIPP debate. Most people should probably diversify across both tax-efficient investing shelters. But there are a some important wrinkles to think about.
Let’s now look in more detail at – all things being equal – the best order of sheltering assets for tax-efficient investing, starting at the top.
Non-reporting offshore funds
Offshore funds that do not have reporting fund status are taxed on capital gains at income tax rates. And as you can see from the table above, that’s a hefty tax smackdown.
Worse still, your capital gains allowance and offsetting losses are knocked out of your hands by HMRC like the school bully taking your lollipop.
If your offshore fund or exchange-traded product (ETP) doesn’t trumpet its reporting status on its factsheet then it probably falls foul.
It’s worth double-checking HMRC’s list of reporting funds. Many offshore funds / ETPs available to UK investors don’t qualify. Also, it’s possible for a reporting fund to lose its special status.
Any fund that isn’t domiciled in the UK counts as an offshore fund. (Sometimes it’s worth saying the obvious!)
Bond funds
Bond funds and ETFs are next into the tax bunker because interest payments are taxed at income tax rates rather than as dividends.
Any vehicle that has over 60% of its assets in fixed income or cash at any point in its accounting year falls into this category.
However because bond distributions count as savings income, interest payments are also protected by your Personal Savings Allowance, so long as it lasts.
Bond fund capital gains fall under capital gains tax, naturally.
Bear in mind that recently-acquired bonds and bond funds will probably be paying out more interest now that yields have risen.
Starting Rate for Savings – bonus protection
Some people – most likely retirees – can find themselves with low earnings income but reasonable savings income.
Such savings income can be sheltered by the Starting Rate for Savings.
Savings income that sits in a £5,000 band beyond your Personal Allowance may qualify for a 0% rate of income tax thanks to the Starting Rate for Savings rules.
That’s most likely to happen if your non-savings income plus savings income lands somewhere between £12,570 and £17,570.
(The upper limit can be increased if you’re eligible for additional tax-free allowances.)
Beware that every pound you earn (in non-savings income) over £12,570 shaves £1 from your £5,000 Starting Rate for Savings allowance.
So if you earn over £17,570 in non-savings income then you won’t get any Starting Rate for Savings privileges.
Whereas, £14,000 in non-savings income leaves you with another £3,570 in savings income that can be protected using your Starting Rate for Savings.
Any savings income that can’t huddle behind the Starting Rate for Savings barricade can still duck under the Personal Savings Allowance.
All this begs the question: what counts as earnings income?
The main categories are:
- Income from work, whether employed or self-employed
- Pension withdrawals including the State Pension
- Retirement annuities
- Rents
- Taxable benefits
It’s obviously less urgent to get all your bonds into your ISAs and SIPPs if you can earn interest tax-free via the Starting Rate for Savings and Personal Savings Allowance routes.
As mentioned though, bonds can make capital gains. Long to intermediate maturity bond funds are most likely to land you with a significant CGT bill.
Short bonds and money market funds typically achieve at most miserly capital gains.
Real Estate Investment Trusts (REITs)
REITs pay some of their distributions as Property Income Distributions (PIDs).
PIDs are taxed at income tax rates not as dividends.
Get them under cover for optimal tax-efficient investing.
Individual bonds
Individual bonds are liable for income tax on interest – just like bond funds.
The only reason that bonds are slightly further down the list is because individual gilts and qualifying corporate bonds are not liable for capital gains tax.
We’ve previously delved into the differences between how bonds and bond funds are taxed.
Income-producing equities
The dividend tax situation has got a lot worse for UK investors in recent years, so high-yielding shares and funds should duck under your tax testudo next.
By all means prioritise protection for your growth shares if you think CGT is the bigger problem.
But bear in mind you can still defuse capital gains every year – although this mitigation measure is being steadily eroded by the shrinking capital gains allowance – and you can usually defer a sale.
Foreign equities
It isn’t necessarily a priority to get overseas funds and equities sheltered, but there’s a tax-saving wrinkle here that only works with SIPPs.
The issue is withholding tax, which is levied by foreign tax services on dividends and interest you repatriate from abroad.
Sometimes withholding tax will be refunded as long as you fill in the right forms. For example a 30% tax chomp on distributions from US equities becomes a mere 15% if your broker has the appropriate paperwork.
Foreign investments in SIPPs can often have all withholding tax refunded but only if your broker is on the ball (and the appropriate agreements are in place). You’d need to check. ISAs don’t share this feature.
If you hold foreign equities outside of a tax shelter then you can use whatever withholding tax you have paid to reduce your UK dividend bill.
So in the case of US equities, a basic-rate taxpayer could use the 15% they’ve paid in the US to reduce their 7.5% HMRC liability to zero.
In other words, only higher-rate / additional-rate taxpayers should consider sheltering US equities in ISAs from a dividend perspective. (There’s still capital gains tax to think about in the long-term, remember.)
Everyone can benefit from the SIPP trick though.
Bow-wowing out
It only remains to say that this is generalised guidance and tax is a byzantine affair. Please check your personal circumstances.
Tax efficiency is important but whatever happens don’t let the tax tail wag your investment dog.
Take it steady,
The Accumulator
Note: This article on tax-efficient investing has been given a tidy up after a few years out in the pastures. Comments below might refer to previous tax rates and allowances. So do check the date they were posted!
@TA “Bond Funds”
Does that exclude dividend (i.e. not interest) paying vehicles such as Invesco Perpetual Enhanced Income Limited, which is more or less wholly invested in corporate and government bonds?
@ Topman – yes, the idea is to shelter first the investments in your portfolio that expose you to the worst tax rates. Though I wonder how your fund gets away with paying dividends if it’s more than 60% invested in bonds?
This is a great article, TA, many thanks. If you’re clever with tax and know the rules, it will go a long way to boosting returns.
@TA (post 2) “… I wonder how…..”
It’s a closed ended investment company.
all the points in this article are valid; but there are other ways of looking at it …
an alternative argument, in simple terms: your tax-free space is valuable, so you should put assets with higher expected returns in there, and prefer to put assets with lower expected returns in a taxable account. then your tax-free space will expand, as the assets grow. this argument is more likely to be valid if you are investing over a long time (decades).
specifically, equities and REITs have higher expected returns, and so (on this argument) should go in tax-free accounts; bonds have lower expected returns, so they should go in a taxable account, if something has to.
a (very long, i’m afraid) concrete example:
suppose you are investing £15,240 in equities and £15,240 in bonds today, 1 of which can go in an ISA, and the other in a taxable account.
suppose the real return on equities is 5%. even in a taxable account, suppose you could avoid CGT by using your annual allowance, but you’d pay 7.5% tax on a yield of 2%, i.e. 0.15% tax per year, reducing returns to 4.85%.
suppose the expected return on bonds is 2% in nominal terms (the yield to maturity is the best estimate of this), but that inflation will be 2%, so the expected real return is 0%. suppose the running yield on bonds is 3% (because they are priced above par), and in a taxable account you’d pay 20% tax on that 3%, i.e. 0.6% per year, reducing real returns MINUS 0.6%.
so you can either have
(1) £15,240 in an ISA, in bonds, compounding at 0% per year in real terms (though it will grow in nominal terms), + £15,240 in a taxable account, in equities, compounding at 4.85% per year;
or
(2) £15,240 in an ISA, in equities, compounding at 5% per year, + £15,240 in a taxable account, in bonds, compounding at MINUS 0.6% per year.
which is better? (1) starts out ahead, but (2) eventually catches up, in year 29, and then keeps pulling further ahead.
that was using rates for a basic-rate taxpayer.
a higher-rate taxpayer would pay 32.5% on dividends, and 40% on interest. giving them a choice of
(1) £15,240 in an ISA, in bonds, compounding at 0% per year, + £15,240 in a taxable account, in equities, compounding at 4.35% per year;
or
(2) £15,240 in an ISA, in equities, compounding at 5% per year, + £15,240 in a taxable account, in bonds, compounding at MINUS 1.2% per year.
again, (1) starts out ahead, and (2) overtakes it, but in this case it does so sooner, in year 13.
(and additional-rate taxpayers can do their own calculation :).)
you could get different results by changing my assumptions (specified above) about rates of return, yields, and whether you can avoid CGT. feel free to debate those assumtions (if this post hasn’t put you to sleep yet).
the tax rates used above are the ones that apply after various allowances have been used up:
– personal savings allowance (£1,000 or £500 or nil);
– personal dividend allowance (£5,000); and
– zero-rate starting-rate savings band (£5,000) (only applicable to ppl earning less than £16,000)
OTOH, what if *none* of those allowances have been used up? (the above investments, totalling £30,480, won’t use them up immediately, unless you’re an additional-rate taxpayer – until you do the same thing for a few more years.) in that case, there is no immediate tax difference from what goes in the ISA. in which case, i’d put the equities in the ISA, because that will tend to expand the ISA space, since equities are expected to grow faster.
however, some ppl will have enough in taxable bonds to use up the personal savings allowance (assuming bonds pay 3% income, that is £33,333 in bonds for a basic-rate taxpayer, or £16,667 for a higher-rate taxpayer); and not have a zero-rate starting-rate savings band; and not have enough in taxable equities to use up the personal dividend allowance (assuming equities pay 2% income, that would take £250,000 in equities).
these ppl might well be better off making their next bond purchases in ISAs and next equities purchases in taxable.
and other ppl will have a different combination of unused allowances.
and then there are ppl who would be better off rearranging what they hold where, but who would incur costs to do so (transaction costs, or CGT from realizing taxable gains). 1 question to ask in this case is: how many years would it take for the more efficient set-up to recoop the costs of the rearrangement?
@grey gym sock — Agreed. Ultimately if shares deliver 2-4% real returns above bonds over the long-term, then on a 20-30 year view you’d likely have been best off stashing them in your shelters, ahead of say bonds and cash, even after the relative tax differentials on income/dividends.
Playing with a compound interest calculator will show us that.
However ultimately everyone will have to do their own sums.
e.g. Anyone who is squeezing their shelters to the rim by putting say £15,000 into an ISA annually and £40,000 into a SIPP is *likely* to be fairly high-earning and/or wealthy (ignoring spouses/lump sums/outliers*) and hence at risk of income pushing them into higher tax brackets, while at the same time perhaps feeling more able to risk higher allocations towards equities for the long-term.
So no trivial answers, but I think this is a strong and simple starting point and overview.
*Yes, they may be late pension starters or risk-averse or just had an inheritance etc etc etc. As I say, broad terms are only a starting point with taxes.
Retired investors might also like to consider investing in a Stakeholder pension, even if they pay no tax, basic tax or higher tax the Government will contribute their share to the pension, and a higher rate taxpayer can claim the difference back.
It falls into the category of invent and leave it for the kids as its outside your estate for inheritance tax, and its their if you need it for care fees. You can even get 25% back tax free and draw down the rest at £1 pa. The residual value being available for the kids.
The sting in the tail is tax and this is where I am not sure but assume it is taxed at the marginal rate of the recipient, or they get at lease what you have invested minus tax, i.e what the government contributed.
Perhaps you could provide some insight on the last para as I cannot understand the pension inheritance rules.
Thanks and a great piece of work. All my investments are in iSA’s as I started transferring assets when they were Peps and TESSA’s
If bonds have lower expected returns, I would suggest the best approach would be to not hold any of them.
Currently I hold equities and cash.
Using the full ISA allowance is a given. After that, I’ve been trying to put dividend payers in my ISA and stocks which are more likely to generate a capital gain in my non-sheltered account. Then I aim to use the capital gains tax allowance each year.
Now I can also target the £5k dividend allowance.
Any income over the 40% tax threshold gets paid into the SIPP.
[I have very low living costs]
This statement sounds right but will be bad advice for most people.
How could it be modified to be less wrong?
One might say (with my additions/changes in bold):
Or one might say:
“Expected returns” from both equities and bonds is just the middle number sitting in a range of possible returns, as you probably know. Diversification can enhance returns whilst reducing risk in a portfolio. And the reason you own bonds is not primarily for their returns, anyway.
(Don’t get me wrong, I own almost no bonds either, just a few special situation plays, and like you hold cash instead. But I do so knowing that I am increasing the risk of doing worse in the pursuit of doing better. It’s an explicit trade-off. 🙂 )
Useful article. (And excellent comment from GreyGymSock.)
I think the role of allowances in determining how to locate assets classes is also quite complex!
In the accumulation years, when many here are perhaps higher rate tax payers, it is relatively straightforward as they unlikely have any zero-rate band and will only have a small savings allowance.
As I approach the distribution phase, I can see there are many more options especially for a couple to maximise tax free income. I have generally kept bonds in ISA and put equities in my wife’s name (as non earner) where the dividends have hitherto attracted no tax. But soon it will make sense to have bond funds outside my ISA as, with no other income, I will be able to take the personal allowance from my SIPP plus £5000+£1000 from bond and cash interest (that’s a lot of bond funds at today’s rates!) and still have a £5,000 allowance for dividends (I believe dividend income is not added to determine your entitlement to the zero-rate?). So £21k tax free and similar on my wife’s side.
So I will start to move bonds back out of ISA’s in the next few years as my earned income starts to fall away.
BTW I have seen reference that “savings-interest” includes interest from unit trust and OEICs, but not actually explicitly interest from bond ETFs which while open ended investments are classified as foreign interest. Anyone know for sure that bond interest e.g. IGLT, INXG counts as “savings-income”?
@ Topman – I wonder why close ended funds would be treated differently? I haven’t come across any advice mentioning this exception before. Do you own these funds and they pay out as dividends? I’m not trying to be difficult, it’s just I’m finding it remarkably difficult to get any clarity on this point.
@ Helford – I’d be astonished if UCITS, UK reporting ETFs were treated differently but it’s possible. I haven’t seen anything yet that definitively says bond interest qualifies for the personal savings allowance.
@TA (post 11)
I don’t know the why but the what is definitely shares/dividends, with the current status of Invesco Perpetual Enhanced being ex-dividend (See http://www.hl.co.uk/shares/shares-search-results/i/invesco-perpetual-enhanced-income-ld-ord-5p).
I don’t hold Perpetual Enhanced but I do hold the dividend paying Henderson Diversified (see (http://www.hl.co.uk/shares/shares-search-results/h/henderson-diversified-income-ord-npv) which invests in secured loans, asset-backed securities, high yield bonds and investment grade bonds, and with both of these companies included in the 15 investment trusts listed on Trustnet as being Asset Class “Fixed Interest”.
@TA
BTW, forgive my impertinence but are you and “taccumulator” one and the same, as rightly or wrongly I assumed that you were? Intriguing how this kind of thought can wake a person at 3am ~:-).
Hi Topman,
taccumulator is The Accumulator in email address form! Somehow seems to have become my username due to auto-form filling inattentiveness on my part.
Just to clarify this close-ended business to the nth degree. When Henderson’s pays a distribution does it come with the 10% tax credit? In other words, does it definitely pay as a dividend?
I ask the question because OEIC / Unit Trust bond funds can be described as ex-dividend even though they’re paying interest as far as the taxman is concerned. And also because any vehicle will just pay you the distributions but how they are declared for tax purposes is down to the individual investor.
@TA
All interesting (no pun).
Situation report:-
1. Spoken today to iWeb, my dealing platform, and their back office says “definitely dividend” but is that the right answer to the wrong question?
2. Spoken today to the HDIV Company Secretary, at BNP Paribas in Jersey, and awaiting his call back.
@TA (post 14) “….. 10% tax credit?”
I only bought fairly recently, since when they have been betwixt and between vis à vis “dividends” and so the 10% answer is “pass”.
Just following up my own question for those who may follow….
Working through SA110 Calculating Your Own Tax, I can confirm that box 4 on the Foreign Pages which is the total of Foreign Interest received is added to “Savings Income” to which the zero-rate allowance applies.
So in conclusion bond ETFs (whose interest is totalled in box 4) would seem to qualify as savings-income for the £5k zero rate and £1k savings allowance.
@TA
The HDIV Company Secretary at BNP called back, and was both pleasant and helpful. Interestingly, with HDIV being Jersey based, he firstly pointed me at the very same AIC guide which I linked to in the How Dividends are Taxed item here (post 29) and specifically the section in the guide headed “What about overseas dividends?”
More importantly, he said that he had spoken directly to “Henderson” (which I take to mean the trust manager Henderson Investment Fund Ltd) as a result of my query, and that HIFL had confirmed that the HDIV dividend when paid does have the 10% tax credit “attached”.
Also, in the interim I had spoken to the investment advice service at HL, and they too said that the HDIV “dividend” is correctly so called, and is not interest by another name.
So, I’ll dink this one back over the tennis net to you!
@TA
Correction: Henderson Investment Funds Ltd.
@ Topman – well, you’ve certainly lived up to your name there. Thank you very much for your sleuthing.
I wonder if it’s because when you buy into an IT, you’ve essentially bought shares in the IT (hence you pay stamp duty) rather than the underlying assets.
When the IT pays a distribution, it’s classified as a dividend because you’re receiving a share of the performance of the company i.e. the IT.
I haven’t found anything yet that states this in black and white but seems plausible.
@ Helford – thank you for following up on that one. Reassuring to hear we haven’t got yet another complication to deal with.
@TA
On further reflection, before I hunker down for some serious Formula One practice/qualifying watching, it occurs to me that the reason why “fixed interest ITs” are deemed to pay true dividends, rather than “interest dividends”, may be because whilst OEIC/unit trusts are required to pay out all of the year’s income in that year, investment trusts are not so required, and may instead and very often do take some of any year’s income to revenue reserve (I believe permitted up to 15% in any one year), thus enabling these ITs to draw on those reserves when required to smooth/maintain/enhance their dividend pay-outs, as evidenced by the extent to which ITs generally were better able to ride the waves in 2008/9.
Thoughts?
@TA
I’ve “sleuthed” this further now, and despite what I reported above when quoting various sources, I’m essentially confident that the “dividends” from ITs investing predominately in the fixed interest arena are in fact interest distributions and are potentially taxable as such.
See http://www.invidion.co.uk/internal_taxation_of_investments.php where it says in the footnote which follows the table headed “Personal Tax liabilities applicable to holders of these investments”, “….. allow an investment trust that invests in interest bearing assets to receive a tax (corporation) deduction for any interest distributions made. This will effectively remove any corporation tax liability that would otherwise arise on distributed interest type income. Where (such) an interest distribution is made by an investment trust it will be treated in the hands of the shareholder as if it was a payment of yearly interest …..”
If I’m right (usual caveat of course that I’m not an investment advisor), then you may want to indicate it in your “most important-to-shelter” paragraph at the head of the post.
@ Topman – thanks very much for deep-diving into this one. Is the change you’re advising something like this:
Bond funds / Fixed interest ITs
@TA
Yes, that’s what I recommend pro tem.
I’ll be able to absolutely nail it when my first HDIV “dividend” arrives c.30 September, and I’ll confirm the situation then.
Best T
Okedoke. I’ll make that change and if you can let me know when the divi comes in that’d be great. Cheers!
Two extremely useful comments from Old Grey Gymsock if you want to get into the weeds on the tax status of Investment Trusts. Be afraid…
http://monevator.com/bonds-and-bond-funds-taxed/comment-page-1/#comment-722904
http://monevator.com/bonds-and-bond-funds-taxed/comment-page-1/#comment-723018
Update on the epic investment trust saga from Topman. Looks like they pay out interest as dividends: http://monevator.com/bonds-and-bond-funds-taxed/#comment-725157
Thanks, Topman!
Here’s a puzzle I can’t get my head around and I would appreciate anyone’s insight. I have a SIPP with a mixture of equities and bonds, and have an inheritance lump sum to invest. I can’t put anything significant into the SIPP as I am retired, and don’t want to, so to shelter the new increased bond element I want in my portfolio my ‘plan’ is to convert equities in the SIPP into bonds, and have a correspondingly larger part in equities in a tax exposed account, my genius idea being this will shelter the bond income from income tax as SIPP withdrawals are subject to income tax anyway.
If the clarity of my explanation has left you baffled some vague numbers might help – say you want to set up a 50/50 bond/equity portfolio with all the bonds in a SIPP and all the equities tax exposed should it really be 50+x/50-x where x is related to the potential income tax on any SIPP withdrawals?
Evening all! I’ve updated and reposted this article from 2015 ahead of a relevant Lars Kroijer post on Thursday, and believe I have all the rates and dates updated! Please note that comments from above this point will have been written in the wake of that old article (but may still warrant a read, as an interesting discussion!)
If anyone spots any old data I’ve missed in the purge, please shout. My eyes aren’t so good in the depths of a December funk. 😉
Unfortunately it is no longer possible for retail investors to buy non-EU domiciled ETFs any more, even those that do have reporting status such as Vanguard US listed ETFs. So the withholding tax saving in a SIPP is no longer available unless you buy individual shares.
You can no longer buy outside a SIPP either, which is annoying as it means you cannot offset the WHT against due income tax. The rule, at least with HL, seems to be that you can hold non-EU ETFs you already have, but not buy new ones.
@Ian I’d invest the lump sum in an investment account in “inc” units (simpler for CGT). Then each tax year bed and ISA 20k you (and spouse). Also keep some in cash.
@Accumulator tax efficient investing may be more an issue of magic G gets in Friday!
@naeclue — Thanks for the feedback, funds aren’t my forte! I have edited the article to (hopefully) reflect your comments. I have also deleted the image, pending @TA getting his magic eraser pen out.
@all — My co-blogger The Accumulator has jumped in via email from his work-bunker to remind me that ETFs are not-all-funds and thus I may have been too vigorous in my application of @NaeClue’s useful feedback above to the copy.
Oh dear. This is what happens when you let the gung-ho active stock jockey loose an article about the quirks of platforms and regulation. *red face*.
Unfortunately @TA is not 100% sure off the top of his head what the fully up-to-date state of general offshore fund buying on broker platforms is, due to the fact that he has a life. Hopefully he’ll be able to investigate anon.
If anyone in the biz is reading — or if anyone super-informed can point us to a definite online source of the status of offshore funds for retail investors on mainstream platforms — to resolve this I’d be grateful!
As I (dimly) understood it, the main issue with respect to US domiciled ETFs was PRIIPs (Packaged Retail Investment and Insurance Products) regulations. PRIIPs came into force alongside the MiFIDII rules in early 2018. PRIIPs requires fund providers to produce a Key Information Document (KID). European-domiciled UCITS ETFs always produce KIDs. US-domiciled ETFs, however, did not have to comply and producing this information at their own cost for a small minority of EU based investors is simply not a priority. If you already own a US-domiciled ETF then you can hold or sell it but you won’t be able to buy more unless a PRIIPs compatible KID becomes available.
An exception exists to allow you to buy US-domiciled ETFs. You can qualify for this if you can demonstrate that you are a professional investor or sophisticated investor. Qualification under this exception will depend on your broker deciding that you meet the definitions of either category. You may also need a decent sized portfolio. Many retail brokers don’t cater for this workaround. My private bank considers that I meet the requirements of being a professional investor; as a result there is no requirement for a KID and therefore PRIIPs doesn’t apply. So I’m still buying US-domiciled ETFs.
@ZX, I agree with your statements – this is down to PRIIPs and will catch other funds, such as US CEFs. AFAIK, not many UK retail brokers allow for professional investor status. For example, Hargreaves Lansdown treats all customers as retail investors. They would have to make changes to their systems to allow for professional investors, even for those customers who would qualify.
Does the withholding tax refund in a sipp [but not isa] outweigh the 20% gain of a lifetime isa?
Considering you can recycle a lisa into a sipp at age 60, and do so in such a way to avoid moving up a tax band
Also I suppose UK funds would no longer be considered EU domiciled, but I think most are ahead of the curve on that
I’m wondering why ONSHORE Investment Bonds aren’t mentioned (AKA insurance bonds)? After pensions and ISAs they can be hugely tax efficient. Top slicing makes them a very attractive vehicle to run alongside a pension and/or ISA. They’re under most peoples radar for some reason. Strange.
Also, it’s worth noting that NS&I Premium Bond prizes are tax free. You never know!
Higher earners need to be very careful with dividends in taxable accounts if they are at risk of punitive pension taper taxation (I.e higher earners in DB pension schemes).
All dividends, including the 2k tax free allowance, count towards threshold and adjusted income for taper tax. A colleague incurred a huge tax bill as taxable income was just below 110k but £500 dividend triggered punitive pension taper and tax.
While bond funds are taxed more than equity funds, I’ve heard it said (from US sources, at least) that one should still put bond funds in taxable accounts in preference to equity funds, since equity funds experience higher growth and will generate more taxable returns over their lifetime. There are lots of factors involved in the calculation, but I’d guess for long term investors sheltering equity funds first makes sense?
@moneydog – i’ve said this too, at least for people who worry more about capital gains being taxed via their pension (normal income people) {bonds in sipp equities in isa}, not so much those who have a large amount completely unsheltered who worry about dividend/interest tax (ie inheritees or high earners) – those people are rushing to diffuse a tax problem
Perhaps another priority could be any funds domiciled abroad (even with reporting status), in order to avoid all the hassle of working out excess reportable income – and what year to report it in.
@Matthew, the US listed ETFs in my SIPP enhance my return by about 0.3% per year. A LISA will boost your return by 25%. From a return point of view LISAs are much better. Under current rules you could withdraw from a LISA and pay into a SIPP, but only as long as you have sufficient earnings.
Thank you @Naclue – I think it’d be similar for me, I suppose the lifetime of the lisa is short enough that compounding withholding tax doesn’t exceed that bonus in total, I will do that 🙂 I dont mind working a few years past 60
Other downside is that it slows down upsizing our house, I don’t want to as much as the wife does
Hello,
I’m following your recommendations for tax efficient investing but I’m not sure what’s the best strategy when it comes to filling up my ISA vs my non-sheltered account (GIA). In the following, I ignore SIPP/pension and I assume that my ISA allowance is already fully used up for the current tax year and that I already have some investments (namely, an equity world tracker index fund) in my GIA.
Option 1. Don’t invest in the few months before April in order to have 20K to invest directly in the ISA at the beginning of the new tax year.
Option 2. Keep investing in my GIA account until the end of the tax year and then start investing in my ISA every month until full, then again in my GIA.
Option 3. Sell 20K from my GIA at the end of the tax year and buy an equivalent investment in my ISA at the beginning of the new tax year. From there, keep investing every month in the GIA. (Does it matter if the GIA has negative vs zero vs positive capital gains?)
Option 4. Any smarter option I haven’t thought about.
Thanks all!
@ Moneydog – there’s no simple, universal rule here. You could pay so much in income tax on bond funds now and in the future, that you never make it up on whatever capital gains / dividend tax savings you make in the future on equities because they just didn’t grow as much as you expected. US sources are ambivalent on this too, or at least they should be if they’re any good. Moreover, US tax advice isn’t particularly applicable to UK investors. Personally, I’d manage my equities in my taxable accounts first relying on the generous Capital Gains Tax allowance and capital gains harvesting to limit my liabilities. If CGT looks like a bigger problem later then you could always sell bonds in your tax shelters and move them to taxable accounts while repurchasing your equities inside your tax shelters. Factors like banging up against the Lifetime Allowance for SIPPs come into play too. If you’re a marginal case then rules of thumb aren’t much help. It’s best to run your personal numbers and rerun them as the facts on the ground change.
@ Jack – I’d say sell enough from your GIA to fill your ISA without breaching your CGT allowance. Then go from there. There’s quite a few good articles on Monevator about capital gains harvesting – these explain how you can take advantage of investments in your GIA having negative capital gains.
I have an investment in an income-tax attracting fund that I am “ringfencing” as it will need selling in 5 or 6 years (paired with cash, for a specific purpose). I am trying to figure out whether to keep these in the ISA or not (maxing ISA allowance in either case). Since I accept that I may need to sell at a low point of the market anyway then I think it is still worth keeping in the ISA, I can sell the income tax attracting fund, rebuy equities in ISA, and sell the equivalent equities outside the ISA so as not to lose my ISA allowance by withdrawing funds. Am I missing something? I have no savings allowance so the tax on income is high.
On a more long term basis I clearly need to do a bit of a calculation. It also seems to be guesswork as you could try and factor in the fact that higher growth assets (on average) should increase the total value sheltered from tax. If you then pivot, eg to provide more income then you have a greater pot still sheltered than if you had kept lower growing assets in there. This is of course guesswork and only based on an average.
@TA Thanks for your suggestion on selling enough from the GIA at the end of the tax year and re-buying at the beginning of the new tax year in the ISA. Given the sudden drop of the last few days, the question becomes what to do if my world equity tracker in the GIA has losses…
What do you recommend to do in this case to minimize (future) taxes?
Thanks!
Hi all,
Hope everyone is ok following the market volatility the last few day!
I’ve been sitting on a bit of cash for a while which I haven’t invested as I’ve already been maxing out my ISA and pension allowances. I would now like to invest it though, and will need to do so in a non tax free wrapper (i.e. a normal dealing account). I want to try to ensure that I’m only / mainly paying CGT, not income tax, but am struggling slightly to figure out what the best way of doing that is. My current understanding is that the three options below are 3 of the better options out there:
1) Invest in funds with UK reporting status – I don’t currently file a tax return but I believed that if I do this I will then start to need to. Is that correct?
2) Invest in UK growth stocks which don’t pay a dividend
3) Invest in US growth stocks which don’t pay a dividend – my understanding if there were any dividends on this they would be taxed at 15% witholding tax, but if there is just CGT then I would only have to pay normal UK CGT when selling and not any additional tax to the US. Is this correct?
Would love to know your thoughts on if these are the best options, or if there is something that I have either misunderstood or missed.
Thanks in advance for any help on this!
Best,
E
Sorry for the second post, but realised that in the above I haven’t maxed out my dividend allowance, actually I’m thinking there are 4 good options. Have also modified my original understanding slightly below based on new info I’ve been able to glean:
1) Invest in UK based funds funds with UK reporting status – should focus on buying income units here to make CGT calculations easier.
– I’m interested in Vanguard Lifestrategy funds, so would love to know if there is any reason that you don’t think that’s a good route to go down outside of an ISA or SIPP.
– Is it possible to buy growth funds that don’t have an income payout that I could use here? If so, I’d love to know how I can find these / what types of funds these are as I’d prefer to invest in funds than individual stocks if possible
2) UK based dividend paying funds (to a maximum of £2k / year dividend payout)
3) Invest in UK growth stocks which don’t pay a dividend
4) Invest in US growth stocks which don’t pay a dividend – my understanding if there were any dividends on this they would be taxed at 15% witholding tax, but if there is just CGT then I would only have to pay normal UK CGT when selling and not any additional tax to the US. Is this correct?
As per my initial post, would love to know your thoughts on my questions + if these are the best options, or if there is something that I have either misunderstood or missed.
Thanks so much in advance for any help!
Best,
E
What do we think, realised crypto gains go in as capital gains?
I hold some IUKP, which is an ETF in my book. Appears on HMRCs list of reporting funds.
I expect it to be a ETF, so not a REIT. I haven’t seen a dividend from it, so I can’t tell if it has the oddball double dividend payment per period like a REIT. It’s sold as an ETF. But it contains REITs. Should I kick this bad boy out of the GIA before it pays a dividend, goes XD in May? Never liked property as an asset class, anyway 😉
@Ermine
Monevator say IUKP is treated like an equity ETF. See https://monevator.com/how-property-income-distributions-pids-are-taxed/
@ miner2049r – you just launder your crypto gains via Panama. Everyone’s cool with it.
@Curlew
Ta, I shall leave IUKP be then. And beware the REIT warning in future.
HELP! I’d really like to know more about onshore investment bonds. Especially about exit strategies for a non-taxpayer who has already taken the return of capital over a 22 year period. The internet is full of information about the 5% rule (ROC) and information about taxation for higher rate taxpayers etc (onshore investment bonds are already taxed for basic rate taxpayers, 20% already considered paid, I know, I know. But what is the best way to encash for a non-taxpayer – a full encashment using topslicing (and wtf is that?! ugh) or partial encashment over a few years? Can anyone help? thank you!!
@INVSTR I agree with you 100%. I really need more information about onshore investment bonds. The ROC was great after 20+ years for paying down mortgage. But now the question is how on earth to exit the product as a non-taxpayer (full encashment or partial encashment, whole segments or partial segments, tax implications…) If you use a partial encashment what is the maximum amount to take in one tax year without owing additional higher rate tax (20% basic rate is already considered paid)… Can you use your personal allowance… I keep reading articles that are aimed at high rate taxpayers which doesn’t help at all. It’s a mystery!!
@hal
There is a lot on bonds here https://techzone.abrdn.com/public/investment/Taxation-of-bonds#anchor_5
I’m no expert but it appears if you withdrew an amount that topped your income upto the limit of the 20% basic rate tax rate, that might be a prudent move to consider.
@hariseldon Many thanks. I’ve read that article before but I still don’t know if personal allowance can be used in calculation (for non-taxpayer). Full segment surrender or partial segment surrender… I’m trying to figure out what the maximum £ amount withdrawal for a tax year could be without falling into a higher rate band and having to pay the extra 20%. Would it be better to fully encash the entire onshore investment bond and use topslicing – but how does that work? I could then use it to put some in ISA, pay down mortgage, emergency fund etc. So many questions…
@hal, I had to deal with some investment bonds after my mother died. I concluded that they were deliberately complicated and obscure, and provided mainly by financial advisors who know that once you have them you are more or less locked into the advisor since you will need him or her to explain how to cash them in. (Cynic, me?)
If you can cash them in and invest the money in something you understand and can control I would do that. My understanding is that if you are a non tax payer you can use the top-slicing calculation to prevent paying tax on £37000 times the number of years the bond has existed – which could be quite a lot – but you would need to check that.
@jonathanB Thanks for that – very helpful. I can ask the advisor but they have a different agenda (!) and I don’t actually trust them 100%. But I will ask them to provide calculations for a few different scenarios. I’m guessing I could withdraw approx £37k per year with no tax implications (as a non-taxpayer). I will also ask an accountant about topslicing to see if that might work out (for a full encashment). I’m only in this product for 20 plus years due to parental pressure at the time *sigh* Once again, many thanks!
@hal, from memory the top-slicing calculation for me was that as long as my headroom within the basic rate band times age of the bond was less than the “chargeable gain” on the amount withdrawn there was no tax to pay. But I was dependent on someone who understood verifying the numbers.
But for you, if the whole of your basic rate band is genuinely available and the bond has been held for 20 years, you might be able to extract an amount which has increased in value by around £700,000 without tax – definitely worth getting advice.
@jonathanB Thank you for the information. I will seek advice and resist the advisor attempts to keep me in the bond (so they can keep their commission going!). I really want to exit. Once again, thanks!
Interesting post as ever.
If I understand correctly as per Post 14 for bond funds and the ETF variety of similar funds, say Vanguard Global Bond Index Hedged Inc GBP Or iShares Global Government Bond ETF (IGLH) although they may report income as dividend (as there appear in transaction listings on platforms) that they should be counted as income and count toward income allowance instead of dividend allowance. Please correct if I have misunderstood
Post 14 below
“I ask the question because OEIC / Unit Trust bond funds can be described as ex-dividend even though they’re paying interest as far as the taxman is concerned. And also because any vehicle will just pay you the distributions but how they are declared for tax purposes is down to the individual investor.”
This article is an ace just for the title’s stated question. It was my question for a long time too. Then all the comments, a cherry on top.
I say: ISA first because I want to retire earlier than 55, 56, 57, 58, 59, 60…subject to change. ISA is my bridge to FIRE. ISA rules can be changed by the next government…subject to change.
Now, let’s check how wrong I was and read this article. Excited.
Hi, I was if you could write a piece on SEIS and EIS (seed investing) investments? I stumbled across this recently and would like to know more from what yourselves at Monevator Towers has experienced and from Monevator readers’ experience. It could make for an interesting comparison when discussing the benefits of tax-breaks, between different investment vehicles.
‘I was wondering if’…