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Tax treatment of ETFs

This article is part of
Guide to Exchange-Traded Products

ETFs are typically eligible for investment within a Stocks & Shares Isa or a self-invested personal pension.

There is no stamp duty to pay, according to Ben Thompson, director of business development, listed products and ETF UK of Lyxor, however investments made outside of a tax efficient wrapper will be subject to either income tax or capital gains tax.

Mr Thompson says it is important for advisers to look for ETFs with UK fund reporting status as this means that gains made on the ETF are subject to capital gains tax rather than income tax.

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In addition, Mr Thompson says if the ETF distributes dividend income, investors will pay tax on the dividend payments.

While US investors can take advantage of some ETF tax benefits, Hortense Bioy, director of passive funds research at Morningstar, says the same is not true in Britain.

She says: “ETFs are not given special treatment in the UK. In general, when it comes to taxes, ETFs and traditional funds are treated the same.

“There is an important classification system that investors should be aware of that governs taxes for ETFs. It is very important to check an ETF’s classification before making a purchase.

“Roughly 75 per cent of ETFs in the UK are given either ‘reporting’ or ‘distributor’ status.

“When an ETF has either of these classifications, it means that any ETF gains are subject to capital gains tax, which is generally a cheaper alternative to income tax.”

Capital gains tax rates are either 18 per cent or 28 per cent, instead of income tax rates which can be as high as 50 per cent, according to Ms Bioy.

Ms Bioy says: “Keep in mind, this capital gains tax is not only applied to ETFs, but to other traditional investments such as funds and shares.

“Regarding dividends, those generated from ETFs or any traditional investments are usually subject to income tax, because dividends are income for investors.”