CGT calculation for Accumulation Units

alexp78

A unit trust or oeic can be either Income or Accumulation units. With Income units dividends get paid out, with Accumulation Units they are automatically reinvested.

The first distribution is split into Dividend and Equalisation. Equalisation is the part of the dividend since the last distribution up to the time at which you bought the units. You are not entitled to this part of the payment as you did not own the units over that period, so it is regarded as a return of part of the purchase price (the capital).

Guidance says that when you sell the fund you deduct the equalisation from the cost price. So I understand the calculation of capital gain is:

Sell price - Cost Price + Equalisation - TotalDividendsPaid - AnyTradingCosts.

Can anyone confirm if this is right for ACCUMULATION UNITS? It seems bizzare As with these units you never actually get a refund of part of the purcahse price? There is no worked example to be found anywhere, just the basic explanation as above.

Thanks.
:T

Aegis

alexp78 wrote: »

A unit trust or oeic can be either Income or Accumulation units. With Income units dividends get paid out, with Accumulation Units they are automatically reinvested.

The first distribution is split into Dividend and Equalisation. Equalisation is the part of the dividend since the last distribution up to the time at which you bought the units. You are not entitled to this part of the payment as you did not own the units over that period, so it is regarded as a return of part of the purchase price (the capital).

Guidance says that when you sell the fund you deduct the equalisation from the cost price. So I understand the calculation of capital gain is:

Sell price - Cost Price + Equalisation - TotalDividendsPaid - AnyTradingCosts.

Can anyone confirm if this is right for ACCUMULATION UNITS? It seems bizzare As with these units you never actually get a refund of part of the purcahse price? There is no worked example to be found anywhere, just the basic explanation as above.

Thanks.
:T

Accumulation units have internal dividends which can be deducted from the sale price to reduce your CGT liability (though you need to pay higher rate income tax on the notional dividends if you're a higher rate taxpayer). Your broker should be able to supply you with a statement of those internal transactions.

alexp78

The question is regarding the treatment of Equalisation units. You only get one value for Equalisation, on the first Tax Credit note after purchase. This is because you purchased in between two dividend distribution dates.

So do you add or subtract or ignore Equalisation?... for Acc units? ... for Inc units?

SnowMan

For simplicity assume we are talking about unit trusts invested in shares


For accumulation units:

CG (capital gain) = Sell proceeds – Purchase proceeds + Equalisation – total accumulated amounts


The total accumulated amounts are the amounts reinvested into the units and reflected through the increased unit price.

For the first distribution the accumulated amount is made up of the net dividend (which is what has accrued AFTER the purchase date) and the equalisation (which is effectively the net dividend accrued BEFORE the purchase date).

For subsequent distributions it is the net dividend and obviously equalisation is zero.

The total accumulated amounts are effectively an allowance against the purchase price to reflect that they have already been taxed as income so when reinvested are not to be taxed as capital gain as well.

The first accumulated amount is made up of a) equalisation and b) the remaining net dividend between the purchase date and the first distribution date. So effectively in the formula above the equalisation is added and then taken away. So what you are really calculating when you simplify it down is

Sell proceeds – purchase proceeds - net dividends accrued (and reinvested) between purchase and sale.


The idea of equalisation is to try and prevent investors artificially turning capital into income or vice versa by buying just before or just after a distribution date. It does make sense but takes a while to get your head round.

Aegis

If I remember correctly, equalisation payments are treated as a return of capital. Therefore, you deduct it from the purchase cost (as you effectively don't spend it in the first place) to make a slightly smaller figure.

As such, the original equation is correct, as
- (acquisition cost - equalisation)
is the same as
(equalisation - acquisition)

Hopefully that clarifies the position of the equalisation a little (though the post immediately above probably helps more).

alexp78

Snowman, thank you for your brilliant explanation. So to put some REAL numbers in as an example, the first Tax Voucher received might have the following figures:

(t) Tax Credit 31.94
(d) Dividend Distribution 287.47
(e) Equalisation 25.89
(a) Amount Accumulated 313.36

INVESTMENT INCOME CALCULATION:

(t) is one-ninth of (d), and so the total gross dividend is (t)+(d) = £319.41.
These are the figures for the next tax return, and represent the dividend earned after the purchase date of the units. There is a tax credit so further tax would only be due for a higher-rate taxpayer.

(d)+(e) = (a) = the total net dividend actually re-invested in the fund causing its price to go up. So the price has gone up by (e) more than the units bought are actually entitled to.

CGT CALCULATION (POSSIBLY SEVERAL YEARS LATER)

The basic gain is "Selling Price - Buying Price".

In the example above, there would be two ways of calculating the amount to subtract from this:

The total "Amount Accumulated" from all the statements less the initial "Equalisation"
OR
The total "Dividend Distribution" from all the statements (as this already has the Equalisation deducted)

So really we are just deducting the amount we have already been taxed on as dividends for the units actually purchased, i.e. taking into account the purchase date.

As Aegis points out, the confusing part in all the literature is describing it as a "return of capital". ...and in fact I still can't get my head round that.

Any further comment would be appreciated!

SnowMan

Yep I agree with all that.

In terms of the equalisation being return of capital it is much easier to understand why that is if we look at distribution units instead of accumulation units.

Suppose in your example you invest £10,000 in distribution units.

Suppose you then receive £313.86 into your bank account at the first distribution. Of this £287.47 is the net dividend which has been subject to 10% dividend tax (i.e £31.94) and the remainder of £25.89 is equalisation (equalisation being income accrued before the purchase date)

You then sale your units shortly afterwards and realise £11,000.

Your capital gain is then 11,000 – (10,000 -25.89).

The subtraction of the 25.89 reflects the fact you don’t effectively spend it in the first place as it paid back to you at the first distribution, just as aegis explained. It is as if you had only spent £9,974.11 (=10,000 – 25.89) to buy the units rather than £10,000 but only received £287.47 at the first distribution (as opposed to £287.47 + 25.89).


Now what is confusing you when thinking about return of capital is that with accumulation units something else is going on in addition to all this, and that something else is of course that you are reinvesting the £313.86 back into the fund. Of course you don’t notice this is practice as it is reflected through the unit price.

HMRC treat this £313.86 as extra spend on the initial units as in a way that's what it is. So their real purchase cost now becomes 10,000 – 25.89 + 313.86

And so if you shortly afterwards sell your fund for £11,000 (say) then the capital gain is

= 11,000 – (10,000 – 25.89 +313.86)

= 11,000 (sale proceeds) – 10,000 (purchase amount) +25.89 (equn) – 313.86 (accumulated amount)

And that is where we get our formula from earlier

alexp78

Thanks Snowman, the light is showing at the end of the tunnel!

Just to check, do distribution units behave this way, i.e. pay out the full accumulation rather than just the dividend earned? I've only had a few single shares and distributing ETFs but not seen any documentation with Equalisation on it.

SnowMan

Equalisation applies to unit trusts and OEICS and distribution units and accumulation units.

And yes distribution units pay out the full accumulation with part of that being equalisation.

It doesn't apply to individual shares (and I'm guessing it doesn't apply to ETFs as they are effectively shares) hence your experience.

Should have been a bit clearer earlier (when I said equalisation was to stop switching from income to capital or vice versa), it would have been more helpful to say the idea of equalisation is to ensure fairness between all unit holders i.e. all unit holders receive the same distribution and equalisation makes this happen. As such it is a unit trust or OEIC concept rather than an individual share concept.

alexp78

Right, I am 100% clear on this now. The overall motivation is to apportion a payment between the capital gain and the investment income tax regimes, to stop clever people from converting one to another to reduce their tax bill according to their own circumstances.

You are right, I have only had the odd OEICs (accumulation only), single shares and ETFs, the latter two being exchange-traded, so I haven't seen the distribution unit scenario for a complete picture.

I reckon this thread may well be helpful to a lot of people - I found it impossible to find a clear explanation with worked example.

Thank again, over and out!

Richard_DandR

When buying a unit trust or OEIC, the price you are buying at is made up of two components - capital and income - but would be seen on the contract as just one figure.

The equalisation paid as part of the distribution is in effect a refund of the income element in the original purchase price. However, as other people are also buying units, an average rate is calculated for all units bought during that distribution period and applied equally to all unit holders.

The units bought during the distribution period are known as Group 2 units. Units already in existence at the beginning of the distribution period are called Group 1 units and have no equalisation element.

A simplified calculation. Say a unit trust issues the following units during the period:

Day 1 - 1,000 units - income element in price 1p - £10
Day 2 - 4,000 units - income element in price 2p - £80
Day 3 - 5,000 units - income element in price 3p - £150

Total 10,000 units issued in period and £240 equalisation.

Equalisation rate would be 2.4p.

If the distribution (dividend) rate for the overall period was 5p, then the group 1 dividend rate would be 5p and the group 2 rate would be dividend 2.6p + equalisation 2.4p, making 5p.