As we enter another new tax year, we find ourselves picking up again with financial advisers on conversations we had around the time of the last Budget, particularly with regard to changes to the dividend tax regime.
By way of recollection, this outlined a notional 10 per cent ‘tax credit’, deemed to have already been paid by companies at source, which has now been abolished.
It was considered that a shareholder in a company which had already paid corporation tax to the Government was afforded the tax credit to partly offset double taxation. For instance, on a dividend of £100, it was assumed that the gross dividend was actually £111, and that £11 tax had already been paid – enough to satisfy basic rate tax (though non-tax payers could not reclaim it). Higher and additional rate taxpayers had to pay more tax to take them up to overall rates of 32.5 per cent and 37.5 per cent respectively.
From 6 April 2016, each individual will now have a new dividend tax allowance of £5,000 per year on which there is no tax to be paid. Basic rate taxpayers with more than £5,000 of dividend income will be worse off as they will now start to pay tax at 7.5 per cent above this threshold. Non tax-payers will be unaffected.
However, the calculation becomes more complex when considering higher and additional rate taxpayers, some of whom will be better off, others worse. The critical figures for those paying more under the new regime is when annual dividend income exceeds £21,667 for higher rate and £25,250 for additional rate. For instance, this might be the equivalent of an investment portfolio of approximately £619,057 yielding perhaps 3.5 per cent per annum.
Alternatively, it could be a far more modest investment portfolio but could be a situation where the client is self-employed and paying themselves a dividend from their own company. This will sound familiar to many individuals with self-invested personal pensions.
Suffice to say, many advisers’ clients will be affected. In considering how best to structure clients’ affairs in future, financial advisers will obviously need to re-evaluate the relative effectiveness of wrappers such as offshore bonds and Isas. The latter always seems to be an easier call, but the former might start to grow again in popularity.
Generally perceived to be less accessible, offshore bonds can deliver a handsome tax-free income. Historically, they have proven to be expensive owing to the wrapper itself. Added to which any investments therein had to be ‘non-personalised’, which was always deemed to mean collective investment vehicles, such as unit and investment trusts.
However, in this innovative world we now find ourselves managing products such as Axa’s Delegation Bond, which is ostensibly the same wrapper but with a specific set of protocols, which means a discretionary fund manager is not bound to just buying collectives. Instead, so long as it operates under an agency agreement with the financial adviser and their client, with the client in theory having limited input into the day-to-day investment decisions, this is considered bona fide.
The total expense on the whole arrangement can be improved by approximately 0.5 per cent by using direct equities. Of course, the onus of appropriateness of the advice and wrapper lies firmly with the financial adviser.
The benefits of simply not declaring an Isa in one’s tax return speaks volumes of the benefits of tax-free income, not to mention capital gains tax benefits. Some would even argue that because of the new-ish freedoms in being able to include Alternative Investment Market stocks, you could say it combines inheritance tax benefits too.
So in conclusion, advisers should continue to dig through their financial fact-finds and touch base with their clients, new and old, to explore whether or not any tweaks need to be made to the structure of their financial affairs.
Kris Barclay is investment manager of Charles Stanley
