Switching index funds - CGT - Have I got this right?

ChilliBob

Guys, 
Something I want to make sure I have right, in this hypothetical example:

GIA account (not ISA), £500,000 in it
Invested into one fund - lets say VLS 100, HSBC Global Tracker whatever
Invested for one year
Let's assume it's now worth 515,000 (3% increase)
Saw you want to switch to a comparable fund (perhaps the above fund has had an increase in costs coupled with a poor tracking error figure or something)

Does this mean you have to:
1. Sell the holding (close to the new price)
2. Buy the new holding (which will probably be a similar price of the sale if it's a similar index
3. Declare a gain of 15,000, assuming this is your *only* gain, you'd pay tax on 2.7k or so £270 or 540 depending on what tax bracket you fit into.
So in essence you need to decide if the move to the new fund will be worth the £270/540 cost.

I assume that the only ways around this are:
1. Try to have smaller holdings - so instead of 500,000 into one fund it could sit in 5 funds (downside = 5x trading cost, but assuming fees were similar, that's about it)
2. Try to only sell part of a holding before buying a new fund to release less of the gains at once if the gain is significant enough to trigger CGT

I just want to make sure I have understood this and some kind of 'swap' or something on a platform isn't a different way to do this. I can't think how there can be any way around it as you could just make a gain, flog the shares, buy something cheap, obvs you couldn't do that without cgt (assuming it was of the level to trigger it of course)

BananaRepublic

Yes.

However, you could sell the maximum possible that triggers no CGT this tax year, then when the next tax year starts, sell the rest. That would be my choice.

A few thoughts:

1. The notional CGT cost from selling the whole lot at once might be swamped by the amount gained/lost due to movement in the markets while you are disinvested.
2. You shouldn't be worrying about such small amounts, think about the long terms performance of investments. If you have a good reason to change, then change.
   
3. You should be transferring lump sums into tax exempt wrappers such as an ISA each year.
4. Personally I prefer more geographical and fund diversity, but that's my style, others disagree.
   

eskbanker

Just to add to the above, another way of looking at it is that if you're switching your notional £515K to something that you'd be hoping will turn into £530K or more (or even leaving it unswitched but with growth expectations), it wouldn't be in your interests to be deferring CGT liability until it's more substantial, so those with substantial unwrapped holdings (and concerns about CGT) should take active steps to crystallise chargeable gains in order to use up annual allowances.

ChilliBob

I'm not sure I follow the phrase crystalise chargeable gains, but I think I may do.. !
In essence I'm thinking the sensible approach is:
1. Have a basket of funds
2. If/When a fund(s) has done well sell some of it, so much that it's below the CGT level
3. Reinvest said amount released, ideally into something undervalued/in a dip
Have I got it? - Your goal is basically to use up the CGT allowance each year, but to re-invest (assuming you don't need the cash). 

eskbanker

ChilliBob said:

I'm not sure I follow the phrase crystalise chargeable gains, but I think I may do.. !

Selling investments that are liable to CGT and are valued above what you paid, even if the gain is below the annual threshold.

https://www.gov.uk/capital-gains-tax/what-you-pay-it-on

ChilliBob said:

In essence I'm thinking the sensible approach is:
1. Have a basket of funds
2. If/When a fund(s) has done well sell some of it, so much that it's below the CGT level
3. Reinvest said amount released, ideally into something undervalued/in a dip
Have I got it? - Your goal is basically to use up the CGT allowance each year, but to re-invest (assuming you don't need the cash). 

Yes, I was proposing what you summarise in your last sentence, although I'm not advocating the specific approach of changing horses by selling what's done well and buying something you believe is undervalued - it's perfectly possible and valid to achieve the CGT crystallisation without fundamentally changing your investments, such as selling Acc units and buying Inc ones or vice versa.

ChilliBob

Cheers, I think it was just the word in a financial sense.
"Crystallization is the selling of a security to trigger capital gains or losses. Once there is a capital gain or loss, investment tax applies to the proceeds"
It's basically what I thought.

It's a good point which you make on the last one about not needing to change your strategy - I'd not necessarily thought about even buying the same thing effectively - I guess it can't be *the same thing* though otherwise there's some rule about 30 days or something isn't there?

I'm aware this strays into a different direction, but if one wanted to pool ones CGT allowance with a wife or husband is it best if they hold the asset from the start, or that you transfer then crystalise or what? - I'm not in that position yet, (due to covid meaning I've had to move my wedding, third time lucky!), but it's good to plan from the outset me thinks.

talexuser

You did not mention ISAs, but personally I sell the CTG limit of my unwrapped holdings every tax year and make sure I have 20k to put into my ISA (sometimes even the same fund if I still want it) which does not have any issues with CTG or dividend tax. Any left overs are reinvested in the unwrapped, in a different fund, temporarily or permanently, since using the allowance every year hopefully minimises CTG in future years if things have gone up even more.

ChilliBob

Yeah that's a very good point - thanks for that. I fully intend to use the full ISA allowance for myself, my partner and my son each year. I have a few ideas how to do that, but this is another to add to the list

chiny

ChilliBob said:

I'm aware this strays into a different direction, but if one wanted to pool ones CGT allowance with a wife or husband is it best if they hold the asset from the start, or that you transfer then crystalise or what? - I'm not in that position yet, (due to covid meaning I've had to move my wedding, third time lucky!), but it's good to plan from the outset me thinks.

That could be a tricky question, depending on your circumstances.   I've always appreciated Monevator's thoughts who could perhaps help your thinking; Monevator CGT thoughts.

ChilliBob

Cheers for that - given it a read, wonder why they ended up with the rather odd phrase of 'bed and breakfast'! 

Bed and ISA I shall do where possible, but probably more likely will buy something that's slightly different. To clarify from a HMRC perspective, as long as it's not the identical fund and share class you're okay right? - So a new share class, or acc instead of inc is fine.

Eco_Miser

wonder why they ended up with the rather odd phrase of 'bed and breakfast'!

Because before HMRC introduced the 30 day rule, investments would spend one night away from 'home'. When humans do that they often stay in a bed and breakfast style hotel.