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  • FIRST POST
    • the learner
    • By the learner 14th May 17, 1:19 AM
    • 139Posts
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    the learner
    Holding mutual funds outside the ISA
    • #1
    • 14th May 17, 1:19 AM
    Holding mutual funds outside the ISA 14th May 17 at 1:19 AM
    Hi, I am holding 2 funds outside the ISA:

    1) US index tracker by Fidelity
    2) Standard Life Global Absolute Strategies

    So the first is a pure equity fund, tracking the S&P500 while the second falls under the category of absolute return funds.

    What are the tax implications of holding these outside the ISA? Am I liable of income tax or just capital gain tax for these 2 funds?
Page 1
    • MichelleUK
    • By MichelleUK 14th May 17, 7:14 AM
    • 276 Posts
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    MichelleUK
    • #2
    • 14th May 17, 7:14 AM
    • #2
    • 14th May 17, 7:14 AM
    Hi, I am holding 2 funds outside the ISA:

    1) US index tracker by Fidelity
    2) Standard Life Global Absolute Strategies

    So the first is a pure equity fund, tracking the S&P500 while the second falls under the category of absolute return funds.

    What are the tax implications of holding these outside the ISA? Am I liable of income tax or just capital gain tax for these 2 funds?
    Originally posted by the learner
    Any income received from these funds is taxable. If you are lucky, you may pay the tax at 0% if the income is covered by your dividend and interest allowances.

    Be very careful if you hold these as accumulation units. You still need to pay income tax on any income, even though it is never paid to you directly (just rolled up into the value of the fund). So that the income is not taxed twice, when you sell, the income received during ownership is added to your base cost for capital gains tax purposes.

    Some platforms keep these records for you, others do not and you need to gather the information yourself and keep meticulous records of all purchases, income and sales.
    Last edited by MichelleUK; 14-05-2017 at 7:17 AM. Reason: Spelling
    • the learner
    • By the learner 14th May 17, 9:40 AM
    • 139 Posts
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    the learner
    • #3
    • 14th May 17, 9:40 AM
    • #3
    • 14th May 17, 9:40 AM
    Why are these 2 funds subject to income rather than capital gain tax?
    • Keep pedalling
    • By Keep pedalling 14th May 17, 11:03 AM
    • 3,259 Posts
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    Keep pedalling
    • #4
    • 14th May 17, 11:03 AM
    • #4
    • 14th May 17, 11:03 AM
    Why are these 2 funds subject to income rather than capital gain tax?
    Originally posted by the learner
    CGT only comes in to play when you sell an asset.
    • the learner
    • By the learner 14th May 17, 11:13 AM
    • 139 Posts
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    the learner
    • #5
    • 14th May 17, 11:13 AM
    • #5
    • 14th May 17, 11:13 AM
    I asked this question cause I wanted to find an alternative to paying income tax on my savings.
    In my situation, after filling my ISA and contributing to my pension, I wanted to put the remaining money at work. If I use P2P lending, or regular saver account I have to pay more than 40% income tax on that.

    So I was considerimg absolute return funds (like the Standard Life GARS mentioned above) to generate an alternative source of income. I was hoping to pay CGT on that, whenever I sell that holding.

    Assume that this fund reach is target (let's say 3% per annum over 3y). Is this 3% to be treated as capital gain, thus allowing me to get that tax free (given the capital gain allowance that I am not using otherwise)?
    • dunstonh
    • By dunstonh 14th May 17, 11:26 AM
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    dunstonh
    • #6
    • 14th May 17, 11:26 AM
    • #6
    • 14th May 17, 11:26 AM
    Why are these 2 funds subject to income rather than capital gain tax?
    Originally posted by the learner
    They are subject to both income tax and capital gains tax.

    Do you plan to bed & ISA?
    Would a different tax wrapper be suitable?

    So I was considerimg absolute return funds (like the Standard Life GARS mentioned above) to generate an alternative source of income.
    Interesting choice. Not one I would use but investing as all about opinion.
    I am an Independent Financial Adviser (IFA). Comments are for discussion purposes only. They are not financial advice. Different people have different needs and what is right for one person may not be for another. If you feel an area discussed may be relevant to you, then please seek advice from a Financial Adviser local to you.
    • the learner
    • By the learner 14th May 17, 11:36 AM
    • 139 Posts
    • 8 Thanks
    the learner
    • #7
    • 14th May 17, 11:36 AM
    • #7
    • 14th May 17, 11:36 AM
    They are subject to both income tax and capital gains tax.

    Do you plan to bed & ISA?
    Would a different tax wrapper be suitable?
    Originally posted by dunstonh
    I alreaddy filled my ISA for this year and possibly I will get enough money during the year to fill the next one in April 2018.
    So this is some extra cash I wish to invest. But saving accounts and few P2P already used my personal allowance of £500 so I will now be subject to 40% on any extra income from my investments.

    Since I have not used my capital gain allowance, it seems reasonable to make good use of that. That is why I was thinking of investing in targeted/absolute return (of course facing the associated investment risks) in order to get any income from these holding taxed as capital gain. Given my 11k allowance that would mean I can get this return tax free, instead of paying 40% on that.
    • grey gym sock
    • By grey gym sock 15th May 17, 12:55 AM
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    grey gym sock
    • #8
    • 15th May 17, 12:55 AM
    • #8
    • 15th May 17, 12:55 AM
    you can't choose whether a fund gives you return as income or as capital return. however, some funds do tend to give you higher income and lower capital gains, others to give you lower income and higher capital gains. in your tax situation, it's perfectly sensible to hold the former in an ISA, the latter in a taxable account.

    though i wouldn't use that as a reason to buy funds you wouldn't be interested in if it weren't for tax. i'd use it to decide where to place the funds i'd like to buy anyway (i.e. higher-income funds in ISA, lower-income funds in taxable).

    a US tracker is a good example of a relatively lower-income fund (mainly because US companies return a lot of cash to shareholders in the form of buybacks instead of dividends - which has the effect of giving you capital gains instead of higher income).

    the GARS fund isn't something i'd go for. if you have your reasons, fine. but i wouldn't do it just for tax reasons.
    • the learner
    • By the learner 15th May 17, 1:06 AM
    • 139 Posts
    • 8 Thanks
    the learner
    • #9
    • 15th May 17, 1:06 AM
    • #9
    • 15th May 17, 1:06 AM
    Thanks for your answer. I would buy funds anyway, to diversify. GARS is an example of absolute return I already hold and I wanted to use this to give an example. I would probably have another absolute outside the ISA.
    But how can I know what a fund is distributing? I mean how can I see if the distribution was income or dividend? I get no dividend elsewhere so I would have an allowance to use as well. Only thik to avoid/minimize is income tax.
    • grey gym sock
    • By grey gym sock 16th May 17, 1:47 AM
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    grey gym sock
    if http://www.hl.co.uk/funds/fund-discounts,-prices--and--factsheets/search-results/s/standard-life-inv-global-abs-return-strategies-p-accumulation is the right fund, then that page says the "type of payment" is dividend.
    • the learner
    • By the learner 17th May 17, 12:47 AM
    • 139 Posts
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    the learner
    Thanks a lot, I didn't notice this info on HL. It is very useful. I am just wondering if it is to be considered as accurate.
    A multi-asset fund, like GARS, would have also bonds in the portfolio. Wouldn't this call for some of the distributed amount to go under the income category?
    I guess the question is: can a fund distribute cash under both income and dividends? All the funds I saw on HL only have income or dividend as type of payment, never both.
    • MichelleUK
    • By MichelleUK 17th May 17, 5:51 AM
    • 276 Posts
    • 171 Thanks
    MichelleUK
    .....I guess the question is: can a fund distribute cash under both income and dividends? All the funds I saw on HL only have income or dividend as type of payment, never both.
    Originally posted by the learner
    Have a read of this:

    https://www.pruadviser.co.uk/new_pdf_folder/bonds-and-oeics.PDF

    ....just the bit about how a fund decides if it pays interest or dividends....the other stuff is a bit out if date!
    Last edited by MichelleUK; 17-05-2017 at 5:55 AM.
    • bowlhead99
    • By bowlhead99 17th May 17, 6:35 AM
    • 6,468 Posts
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    bowlhead99
    Mixed asset funds are generally unable to stream their income payments into "a bit of interest, a bit of dividend".

    Basically if over 60% of their assets used to produce the income are cash or other fixed-interest assets such as bonds, they will class themselves as a non-equity fund and characterise their distributions as interest. This can help to ensure that they do not suffer any tax internally, because they have a big interest expense (from paying their investors) to offset against the interest income they earned over the course of the year from their portfolio, and so they will hopefully get a zero tax bill for themselves and better performance.

    But if 60% or less of their assets were in cash or fixed interest, they will just pay their taxes on the interest bit (if any) and the remaining residual income is paid over to their investors as a dividend.

    So, most funds will reliably pay interest distributions to their investors from year to year OR dividend distributions from year to year to their investors - but will not be mixing it up without a publicised change in strategy, and they won't pay both interest and dividends within the same year. For you receiving those payments, you will therefore be able to use your dividend allowance or your personal savings allowance on the income allocated to you depending on whether it is dividends or interest.

    In case the following is relevant to you: as Michelle said earlier, it's important to recognise that if you have bought the 'Accumulation' version of a fund, then the income (whether interest or dividends) which is allocated to you will not be physically sent to you. Instead, for administrative convenience, after allocating the income to you for the year (or six months, or quarter, however often they do it) they will just reinvest the arising income into new assets within the fund, and not actually distribute anything to you. That way, by not physically distributing any money to you, the fund asset value will stay as high as possible instead of dropping as money is put into your own hands. However, you still earned the income (whether interest or dividends) and so it is still your responsibility to pay tax on it even if you chose to buy the accumulation version where the income is left sitting inside the fund rather than being received into your own hands. If you chose 'income' or 'distribution' units instead of 'accumulation' units it is more straightforward because you can easily see when money is being paid over to you.

    Once you have dealt with income (interest or dividend) side of things, the other side is capital gains tax. No tax is payable from year to year if you are not actually selling any of your shares/units. However, when you eventually you do sell a share of the fund you have to compare the cost (price you paid for it) with the proceeds (what you got when selling it). The cost is what you initially paid for the shares plus any money you reinvested along the way (including income/interest that was reinvested for you by the fund manager, in the case of Acc funds). Once you compare sale proceeds to cost, you may (hopefully) have a gain, and then if the overall gains you make in the year you sell exceeds your annual exemption, you will have some capital gains tax to pay.

    So: depending on the type of fund, you may have dividend tax to pay on your dividend income plus CGT on sale (and both the dividend piece and CGT may be covered by your allowances and exemptions depending on the amounts involved) ; or you may have interest income tax to pay on your interest income plus CGT on sale (and both the interest and CGT may be covered by your allowances and exemptions depending on the amounts involved. But you are unlikely to get interest income AND dividend income in the same fund.

    For completeness: if you branch out into real estate / property funds such as PAIFs and REITs you may encounter a third type of income - "property income distributions". This is the net income made from a direct property portfolio (rental income etc) and some types of funds are set up to stream it separately. That sort of income isn't covered by a dividend allowance or personal savings allowance because it isn't a corporate dividend and it isn't interest, it's just taxed at your normal marginal rate. Some PAIFs and REITs would pay you (or accumulate for you) a mix of PID and dividends at each periodic distribution point.

    Neither of the two funds you mentioned will do that as they are not in the property game, but if you were to branch out to a varied portfolio with equity funds and bond funds and property funds, your overall returns will be a mix of income (dividends, interest or property income) and also CGT on disposal.
    Last edited by bowlhead99; 17-05-2017 at 6:39 AM.
    • the learner
    • By the learner 17th May 17, 9:48 AM
    • 139 Posts
    • 8 Thanks
    the learner
    Thank you all, I read with extreme interest. So given my current situation:

    - taxable income likely to be above £100,000 for year 2017/18
    - personal allowance reducing by £1 for every £2 more income I get

    The best solution for me is to find a relatively stable fund that pays as dividends, since my £5,000 dividend allowamce is still unused (same fkr capital gain allowance). I guess I can only choose an absolute return fund for this, since it seems to pay dividend and have a volatility that is tipically lower than equity funds.

    On the other end, I would pay 60% tax on any income a fund might distribute (40% marginal rate, plus the 20% as effect of reducing my personal allowance by £1 for every £2 income).

    If the above is correct, there is still one issue.

    Suppose my taxable income from job is £100,000. I pay a marginal income tax of 40% and my personal allowance is still intact at £11,500.
    Now assume that my funds held outside the ISA pay £5,000 dividend.

    Is this £5,000 actually tax free in my situation? The reason why I ask is because if the dividend will increase my total taxable income (at least for the purpose of computing the personal allowance) I will actually see my tax free area reduce by £2,500. The effect of all this, would be an actual 20% on £2,500 of my dividends, with only the remaining half being actually tax free.

    Do you know if that is how it will work? Thanks again for all the clarifications.
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