I just worked out how to avoid CGT…

Linton

aroominyork said:

You’d rather hold equities outside a wrapper than in? Let’s run approx. numbers with the assumptions you pay tax at basic rate with no available allowances for CGT, interest or dividend income.

You start with £100,000 and will draw it after 15 years. Assume equities rise at 8% annually and pay 3% dividend. Unwrapped, your £100k after 15 years is £317k. You pay 10% CGT on £217k = £21.7k. You also pay £7.7k dividend tax over 15 years, so total tax of £29.4k. Net value £317k - £29.4k = £287.6k.

If you move it into a SIPP it is grossed up to £125k. After 15 years it is worth £396k. Although you would probably withdraw it over a number of years let’s assume it is all in one chunk, 25% tax free. You pay tax of £396k*(1-25%)*20%=£59.4k. Net value is £396k-£59.4k=£336.6k. That’s a 17% better outcome. I know which I prefer.

I assumed you meant you could avoid the CGT that would be due anyway when you sold the unsheltered equity fund. What you do subsequently cannot affect this.

On the wider point, yes obviously it is normally best to assign investments to the environment where tax is minimised.  So put income investments to ISAs in preference to pensions and therefore to use pensions more for growth investments.

masonic

[Deleted User] said:
But in that case why are you keeping gilts outside? Solely from an income tax and CGT perspective, you'd be better off putting that value in the SIPP too.  If your answer is you want to keep money outside the SIPP then I go back to my point that (ignoring any short-ish term spending needs) it's better to have equities outside.  When you need the cash to spend you undo the initial moving around of assets (sell equities outside, sell gilts inside, by equities inside).

Gilts held to maturity are exempt from CGT and coupons are as low as 0.125%, resulting in the vast majority of total return being tax free. The tax implications would be negligible compared with other investments, such as equities.

Grumpy_chap

aroominyork said:

You start with £100,000 

If you move it into a SIPP it is grossed up to £125k. 

The contributions to the SIPP are constrained by Annual Allowance, plus any available carry forward.

There is also a constraint of your earned income from the current tax year.

Do you have sufficient available earned income and allowance (after any contributions already made) to transfer the £100k into a SIPP in one tax year?

masonic

[Deleted User] said:

masonic said:

[Deleted User] said:
But in that case why are you keeping gilts outside? Solely from an income tax and CGT perspective, you'd be better off putting that value in the SIPP too.  If your answer is you want to keep money outside the SIPP then I go back to my point that (ignoring any short-ish term spending needs) it's better to have equities outside.  When you need the cash to spend you undo the initial moving around of assets (sell equities outside, sell gilts inside, by equities inside).

Gilts held to maturity are exempt from CGT and coupons are as low as 0.125%, resulting in the vast majority of total return being tax free. The tax implications would be negligible compared with other investments, such as equities.

That's right but assuming reasonable growth in equities, that tax benefit of owning gilts outside a pension does not offset the extra pension income tax on the growth of equities held inside the pension.

No, that's incorrect. The tax relief grows along with the gains in the investment. As per worked examples above. Even if your investments grow 1000x, each £1.00 grossed up to £1.25 through tax relief, becomes £1,250, which net of basic rate income tax is still more than the £1,000 you'd get unwrapped. For a basic rate taxpayer in retirement, the additional income tax they will pay as a result of using the pension is negative. In other words, they'll defer tax and pay it at a lower overall rate than they would if keeping the earnings outside of a pension. Whereas unwrapped, they'll pay full income tax on the earnings and potentially more tax as CGT / dividend tax in the unwrapped account.

masonic

[Deleted User] said:

masonic said:

[Deleted User] said:

masonic said:

[Deleted User] said:
But in that case why are you keeping gilts outside? Solely from an income tax and CGT perspective, you'd be better off putting that value in the SIPP too.  If your answer is you want to keep money outside the SIPP then I go back to my point that (ignoring any short-ish term spending needs) it's better to have equities outside.  When you need the cash to spend you undo the initial moving around of assets (sell equities outside, sell gilts inside, by equities inside).

Gilts held to maturity are exempt from CGT and coupons are as low as 0.125%, resulting in the vast majority of total return being tax free. The tax implications would be negligible compared with other investments, such as equities.

That's right but assuming reasonable growth in equities, that tax benefit of owning gilts outside a pension does not offset the extra pension income tax on the growth of equities held inside the pension.

No, that's incorrect. The tax relief grows along with the gains in the investment. As per worked examples above. Even if your investments grow 1000x, each £1.00 grossed up to £1.25 through tax relief, becomes £1,250, which net of basic rate income tax is still more than the £1,000 you'd get unwrapped.

I think you missed my earlier post where I said:

I misread your first post as saying you are just moving equities out of the pension and gilts into it (via two sales and two purchases) and not making extra pensions contributions.  Without extra pension contributions, equities outside of the pensions (especially if they are in an ISA) wins. 

If you plan on using your outside money to make extra pension contributions then that is typically better from an IT/CGT perspective.  I say typically because it depends on current and future marginal tax rates and whether you would already used up your LSA without the extra contributions. 

But in that case why are you keeping gilts outside? Solely from an income tax and CGT perspective, you'd be better off putting that value in the SIPP too.  If your answer is you want to keep money outside the SIPP then I go back to my point that (ignoring any short-ish term spending needs) it's better to have equities outside.  When you need the cash to spend you undo the initial moving around of assets (sell equities outside, sell gilts inside, by equities inside).

I read it and even responded to it. It doesn't seem to have any relevance to your later comment, which still labours under the false notion that there would be any extra income tax on the growth of equities held inside a pension, when the truth is the overall income tax paid in that situation is lower than buying equities unwrapped using post-tax income.

In short:

• Without extra pension contributions, equities inside of the pensions wins, followed by ISA, then unwrapped
• With extra pension contributions, Gilts held to maturity should be the last thing to wrap after equities, bond funds and cash
• If you hold equities outside, you miss out on growth of the tax relief paid into the pension, at least a quarter of which can be withdrawn tax free in retirement, and the remainder nullifies the impact of basic rate income tax (equivalent to buying the investments with earnings after basic rate tax and paying no tax on growth or income)
  

But it is unlikely the OP can wrap everything, even if they wanted to, because they have the earnings limit for pension contributions and ISA annual allowance to contend with. If EthicsGradient's calculations are correct, the sum in question is going to exceed these.

aroominyork

I confused this when my calculation included SIPP tax relief. To restate the situation: I can move my unwrapped assets into SIPP/ISA over 2-3 years at current valuations but would exceed CGT allowance when selling the unwrapped equities to do that. My plan was to reduce CGT liability over those 2-3 years.

I agree with masonic that “The tax relief grows along with the gains in the investment”. Inside a SIPP is better than outside if getting additional tax relief.

The place I have confused this is by not first looking at what happens assuming I simply switch my SIPP gilt fund for equities, and my unwrapped equities for nominal gilts. Tax relief does not come into it since no additional contributions are made. Say you have £100k in SIPP and £100k unwrapped and want your funds split 50/50 equities/bonds – is it better for the equities to be wrapped or unwrapped? My previous assumption was ‘wrapped’.

I’ll again assume equities grow at 8% a year. After 15 years you have £317k in equities to liquidate (ignore allowances and higher rate tax bands – this is for ease). Unwrapped tax is ((£317k - £100k) * 10%) = £21,700. Tax in the SIPP is £317k*(1-25%)*20% = £47,550. So I think I am challenging you, masonic, when you say “Without extra pension contributions, equities inside of the pensions wins, followed by ISA, then unwrapped”.

Once we (hopefully) agree this, let's move onto whether the strategy works of a temporary move into nominal grilts before shifting funds into SIPP/ISA.

masonic

aroominyork said:

I confused this when my calculation included SIPP tax relief. To restate the situation: I can move my unwrapped assets into SIPP/ISA over 2-3 years at current valuations but would exceed CGT allowance when selling the unwrapped equities to do that. My plan was to reduce CGT liability over those 2-3 years.

I agree with masonic that “The tax relief grows along with the gains in the investment”. Inside a SIPP is better than outside if getting additional tax relief.

The place I have confused this is by not first looking at what happens assuming I simply switch my SIPP gilt fund for equities, and my unwrapped equities for nominal gilts. Tax relief does not come into it since no additional contributions are made. Say you have £100k in SIPP and £100k unwrapped and want your funds split 50/50 equities/bonds – is it better for the equities to be wrapped or unwrapped? My previous assumption was ‘wrapped’.

I’ll again assume equities grow at 8% a year. After 15 years you have £317k in equities to liquidate (ignore allowances and higher rate tax bands – this is for ease). Unwrapped tax is ((£317k - £100k) * 10%) = £21,700. Tax in the SIPP is £317k*(1-25%)*20% = £47,550. So I think I am challenging you, masonic, when you say “Without extra pension contributions, equities inside of the pensions wins, followed by ISA, then unwrapped”.

Once we (hopefully) agree this, let's move onto whether the strategy works of a temporary move into nominal grilts before shifting funds into SIPP/ISA.

You've not included the £27k income tax you'd pay on removing the proceeds of the bond holdings from the SIPP if you held the equities outside assuming growth of 4% for these. Include that and you get to £48.7k. When comparing changes involving two assets, you need to consider the implications for both. Whereas you'd pay very little tax on the gilts held unwrapped. Perhaps a few hundred pounds. Meaning equities wrapped would probably win out by a whisker. More than a whisker if dividend tax is factored in in the other scenario.

What I would concede is that if you have assets that suffer truly abysmal growth over the holding period, then those would be more tax efficient to hold in the SIPP. In the extreme they could reduce the value of your SIPP to the point you pay no income tax after inflationary uplifts to your personal allowance. Essentially that would be equivalent to earning less to pay less tax, whereas unwrapped you would have paid income tax initially and might have more to tax to pay on income and growth.

aroominyork

Agreed, masonic - I over-simplified. But More_complicated raised a worthwhile point not to assume  'sheltered' always wins out: 10% of capital growth plus 8.75% dividend tax - especially if you have an allowance to reduce both of them - can have benefits over 20%*75% of the (dividends reinvested) total. During recent years when equities were motoring and bonds were crawling, the balance could have favoured unwrapped equities. Now we wait to see what changes Labour makes.

Reaper

For completeness there is another option - Venture Capital Trusts. No need to hold them in any tax wrapper because if you buy them new and hold onto them for 5 years you get:
 * 30% upfront income tax relief
* any growth free of CGT
* tax free dividends

BUT
* much higher risk than gilts
* can be hard to get a good price when selling

aroominyork

Reaper said:

For completeness there is another option - Venture Capital Trusts. No need to hold them in any tax wrapper because if you buy them new and hold onto them for 5 years you get:
 * 30% upfront income tax relief
* any growth free of CGT
* tax free dividends

BUT
* much higher risk than gilts
* can be hard to get a good price when selling

Is a nanostatement stronger than an understatement?