Woodruff Financial Planning blog

It was well publicised last week that the Chancellor’s emergency budget raised capital gains tax for higher rate income tax payers from 18% to 28%.  However, trusts were also caught up in the changes, which has not yet received widespread notice.

How does capital gains tax work?
Capital gains tax is paid on the disposal of assets such as investment funds, and would affect you if you sell your investments, or switch funds within those investments.  Before the changes tax was levied at 18% of any gains over £10,100 per person, per tax year.

What are the changes?
From now on, this will remain the same if you are a basic rate income tax payer (20% rate).  If you are a higher rate income tax payer (40% or 50%), then capital gains tax will now be 28% on any gains above the £10,100 limit.

Our understanding is that if you are a basic rate tax payer and the capital gain takes you into the higher rate bracket, you will pay 28% tax on the excess which takes you above the higher rate limit.

Trusts
Trusts will also pay capital gains tax at the higher rate of 28%, and what’s more they will only have a tax-free allowance of £5,050 per tax year.  Trustees should pay particular care when making changes to their investment portfolios.

You may have heard that the new Government is planning to raise the rate of Capital Gains tax.  This could be relevant to you if you hold any savings in shares, or an investment property. Currently, this tax is paid at 18% on any capital growth of most assets.  You can disregard the first £10,100 per year of gains made in each tax year.  Therefore, consider this scenario:

You bought some shares 10 years ago for £1,000.  You now sell your shares for £10,000.  Therefore you have made a gain of £9,000, which would be within the allowable limit before tax is applied.  If you sell the shares for £21,100, the gain would be £20,100.  Tax would be charged on £10,000 at 18%, which would be £1,800.

Why is this relevant?
If the tax rate rises, the above scenario could mean that you would pay more on such gains.  If the tax rate rises to income tax levels, as some (possibly alarmist) commentators have suggested, you could end up paying 40% on this gain.  Therefore, in the above scenario, tax charged could be £4,000 instead of £1,800.

We would hope that ordinary savers would not be hit in this way, because significant rises could penalise savers who have worked hard to build up assets for their future.  We would hope that either the rate will not rise as high as suggested, or there would be some careful exemptions or reliefs available for normal transactions.

Light at the end of the tunnel?
Iain Duncan-Smith, the new Work and Pensions minister told the BBC: ‘[George Osborne] has also talked about major exemptions for all sorts of different groups, because we don’t want this to harm entrepreneurs, we don’t want to harm families that are heading towards retirement who have actually saved.’

We are waiting for the final details to come out, so will update clients when this happens.

Today, I met with a new client.  He is approaching 60 and has been running professional practice for some years.  He is now considering retirement.

We started off by discussing his pensions, and other assets, as well has his income sources for the future.  However, it quickly became clear to me that what he really needs at the moment is to know if he can be confident to retire; after all, this is a big decision.  Once he gives up his professional practice, his income will be limited, although he can always work as a consultant.

What we spoke to him about was the concept of comprehensive financial planning.

We will begin by analysing his future goals, income, expenses, assets etc, and then put these all together to work out whether he can be confident to retire now, or whether he will need to work for a few more years to build up more resources.  This is a big decision, so needs to be taken with his eyes wide open.  Out philosophy is that it is better to know the real value of your money and assets so that you can enter retirement confident that you can be financially secure; if this is not the case, then we can start to work on what will achive your goals.

We will be able to paint a picture of his retirement as if he had retired yesterday.  If his resources are not enough, we can start to look at other options by examining different scenarios, such as retiring later, spending less money, working part time, downsizing his home etc.  After all, these decisions need some careful planning.

Once this has been done, we can agree a strategy to best meet his needs, and this will result in some major changes to his current financial situation: taking pension income, amending investments to focus on income rather than capital growth, and possibly the sale of his home.  We will work closely with his accountant as there will be other issues raised by the exit from his business.

We find this a rewarding process in that we are actually helping the client to realise his ambition to retire on enough income to achieve his future desired lifestyle.  from the client’s point of view, this is not about financial products, but more about financial planning to give him the confidence to stop accumulating and start spending.

See out Financial Navigation service for more details.

Aviva, one of the largest insurance companies in the UK has announced the bonus rates for existing and new holders of their with profits fund.  This will be at 2.75% for the coming year (the same as last year).

We are not fans of with profits policies since they are very difficult to value, understand, and often come with exit penalties which clients did not expect.  We do not recommend with profits plans for our clients.  The reason for bringing up this issue is that holders of this and similar funds will have a very modest growth for the coming year.  Compare this to the average UK stockmarket fund last year, which generated 30.39% growth.  Now, with profits managers will point out that they were probably offering positive growth when unit linked funds were losing money.  However, our concern is that these funds will probably have poor growth prospects going forward.

After all, if you were offered 2.75% growth on an investment, why not keep it safer and with easier access in a bank account?

We can help you to analyse your with profits policies, and work out whether you may be better off by switching to a new portfolio to match your risk profile.  See our portfolio management service.