Taxman slaps 'kick-out' ISAs

The taxman has stirred up a storm following a recent HMRC bulletin for individual savings account (ISA) managers. The controversy surrounds protected capital plans that include the option to end the plan early (often referred to as 'kick-out' plans)..

Kick-out plans have become increasingly popular in recent years, partly because the combination of low interest rates and volatile stockmarkets has made it more expensive for protected plan providers to build traditional protected plans that simply match index growth (you can read more about protected plans in our investment section). So this news has potentially significant consequences.

What are kick-out protected plans?

They're like conventional capital protected plans in that they usually protect your initial investment and link investment returns in some way to a stockmarket index over five or six years. However, they also allow the provider to end the plan early, typically on an anniversary, if the index hits a certain level.

For example, a kick-out plan might offer a return of 8% a year for five years with the caveat that it will end before then at the end of any year where the FTSE 100 has risen. So if the FTSE rises over the first year the plan will close and you get back your original investment plus 8%.

Why the problem?

HMRC ISA rules state that an ISA manager must not hold securities (i.e. shares, bonds and other underlying investments) that are required to be repurchased or redeemed within five years of purchase. This means, for example, that corporate bonds due to be redeemed within five years cannot be bought within an ISA.

HMRC's view is that kick-out plans may have broken this rule because there's a chance they'll end before the five years are up. If this happens the underlying security used to build these plans is effectively redeemed.

Have the providers done wrong?

It's difficult to say at this stage. The providers' view seems to be that the rules can be interpreted as 'the security won't definitely have to re-paid within 5 years' and/or that simply passing the security back to the issuing bank if kick out does occur is ok as it's not then technically repurchased or redeemed. Whereas HMRC seems to be saying this isn't the case.

Why hasn't HMRC highlighted this issue before?

This is a grey area and my guess is that HMRC has been fairly relaxed in the past as most kick-out plans looked fairly likely to run their full course of five years or more. However, most of the recent plans have terms that make kick-out after just a year a two quite likely, which appears to be against the spirit of the rules, prompting HMRC to clamp down.

Which providers might be affected?

In theory any provider that has sold kick-out plans within an ISA, which would include the likes of Barclays, Santander, Morgan Stanley, Investec, Legal & General, Meteor and Blue Sky Capital. However, I must stress that at this stage it's not clear whether any of these companies has done anything wrong or have any offending ISA plans.

Will I lose out?

Unlikely. When HMRC announced last year that some Keydata ISAs did not comply with the ISA rules they sought to recover outstanding tax from Keydata and then the Financial Services Compensation Scheme (given Keydata was in administration), rather than investors. They also allowed affected investors to retain their ISA allowance on maturity or sale of the offending investment.

What happens next?

HMRC says that ISA managers must check their ISAs to see whether any break this rule. However, given the ambiguity over the issue I'm sure ISA managers will in turn seek further clarification from HMRC. I expect we'll find out more over the next few weeks. I'll keep you posted...

Read this article at http://www.candidmoney.com/articles/article90.aspx

Barclays Growthbuilder Plan any good?

The Barclays Growthbuilder plan, available until 1 June 2010, offers a potential return of up to 39.6% over a six year period.

The idea is fairly straightforward. You invest between £3,600 and £75,000 for six years and for each year the FTSE 100 Index is higher at the end of each year compared to the start of the year, 6.6% is added to your final return.

So, suppose you invest £10,000 and the FTSE 100 Index rises over three of the six years, you’d receive £10,000 x 6.6% x 3 = £1,980 plus the return of your original £10,000. If it falls every year you’ll simply get back your £10,000. The only scenario where you’d lose money is if Barclays Bank PLC, which underwrites the plan, fails to pay what’s owed to you at maturity – unlikely, but never say never. Should this happen you’ll be covered by the Financial Services Compensation Scheme up to £50,000 per person.

The plan can be held in an individual savings account (ISA). When held outside of an ISA any gains at maturity will be subject to capital gains tax.

While I applaud Barclays for keeping things simple, unlike some competitor plans, I have a major gripe with the Growthbuilder plan: the potential annual returns of 6.6% are not compounded, which effectively overstates returns when comparing to conventional savings. If we factor in compounding (i.e. interest on interest) then the 6.6% potential annual return falls to 5.73%.

Let’s take a look at the possible returns:

Number of years when FTSE 100 rises	Return on £10,000	Equivalent Gross Annual Compounded Return
0	£0	0%
1	£660	1.10%
2	£1,320	2.11%
3	£1,980	3.07%
4	£2,640	3.99%
5	£3,300	4.88%
6	£3,960	5.73%

Not very compelling are they? Especially when you can get 5% gross fixed for five years via a savings account. However, higher rate taxpayers could benefit from any returns being subject to capital gains tax and not income tax, although this obviously depend on tax rates and rules in six year’s time...difficult to predict!

Overall I think this plan offers a poor deal. The potential upside just doesn’t compensate for the added risk versus a fixed rate savings account. To get a worthwhile return the FTSE 100 will need to rise consistently over the next six years. And if you believe that will happen then probably better to invest in a tracker fund instead and benefit from the full extent of any rises plus dividends too.

Read the full review at http://www.candidmoney.com/candidreviews/review22.aspx

Provident Financial 7% 2020 bond worthwhile?

Provident Financial is a very successful doorstep lender. Its 11,500 strong army of self-employed commission-based agents target individuals who would struggle to get credit via more conventional means, such as banks or credit cards.

The loans, typically £300 - £500 for up to a year, are unsecured meaning the company is especially vulnerable to bad debts. However, Provident Financial charges customers very high rates of interest; the typical APR is 254.5% - 272.7%. With such a massive margin it can afford to pay agent commissions and incur some bad debts while still making handsome profits – something it's achieved consistently in recent years.

Provident Financial also offers a credit card through its Vanquis Bank operation, which typically charges 39.9% APR.

The company is listed on the London Stock Exchange and its share price has been fairly resilient over the last few years relative to overall market volatility. However, the price dipped in early March this year when Provident Financial announced lower than expected profits and warned of tougher times ahead. Nevertheless, it's likely to remain profitable and the dividend yield is currently attractive at around 7.3%. Invesco and Schroders own around 40% of the share capital between them.

While there is a moral issue over supporting a company that charges the financially vulnerable such high rates of interest, there's little doubt that this is a profitable business model that has so far weathered the economic downturn well.

I think the biggest threat to profitability remains bad debts. Provident Financial's 2009 accounts show an impairment charge (effectively bad debts) over the year of £283.4 million, a 19% increase on 2008. Given Provident Financial has around £1.14 billion of outstanding customer loans then bad debt provision appears to be running at about 25%.

So, against this backdrop, is Provident Financial's 7% 2020 corporate bond worthwhile?

If you buy the bond and intend to hold it for the full 10 years until maturity, then I think there's a reasonably good chance of getting your money back plus all the interest payments meanwhile. But I certainly wouldn't take this as a given. As highlighted above, the business makes money by borrowing cheaply (in this case, at 7% plus commissions) and lending at sky high rates able to absorb relatively high levels of bad debts. If bad debts rise to unsustainable levels or future legislation restricts the amount of interest that can be charged, then profitability (hence bond payments) could come under severe pressure.

The credit rating agency, Fitch Ratings, rates Provident Financial as BBB+. This is classed as 'lower medium quality' – the BBB category is one notch above non-investment grade (or junk) bonds.

You can expect to receive income payments of £35 per £1,000 invested on 14 April and 14 October each year.

If you sell before the redemption date you may make a profit or loss on your original investment. The factors most likely to influence the bond price are interest rates, inflation and Provident Financial's financial strength. Rising interest rates and/or inflation will likely cause the bond price to fall, as would deterioration in Provident Financial's financial position.

How does the 7% yield compare to other bonds in the marketplace?

Provident Financial issued £250 million of 8% 2019 bonds to the institutional market in October 2009, currently yielding around 7.3% gross to redemption. The 7% yield on this new issue looks a bit stingy by comparison (perhaps because Provident Financial is, unusually, paying a 0.5% tail commission to the broker distributing the bond).

Otherwise, the yield looks reasonable versus similarly rated companies – for example, Severn Trent Water (rated BBB+ by S&P) 2024 6.125% bonds have a current gross redemption yield of about 5.5%.

I don't think the Provident Financial 7% 2020 bond is a bad deal if you're prepared to sit tight for 10 years and don't anticipate higher inflation (means your money will purchase less when you get it back in 10 year's time) and/or interest rates (means you might end up getting higher rates in the bank).

But personally I wouldn't take the risk when bank savings accounts are offering up to 5% gross fixed for five years. Plus I'd always be wary of investing in a single corporate bond. Better to spread your money across several, perhaps using a fund to do so.

Regardless of the outcome, there will almost certainly be one winner in all this – Hargreaves Lansdown - the broker selling the bond. Provident Financial will, unusually for a corporate bond, pay Hargreaves Lansdown up to 0.5% a year on the principal amount of the bonds in issue until redemption in 2020. Maybe that's why Hargreaves Lansdown has sent me several emails in as many weeks encouraging me to invest!

You can read more about fixed interest investing in our investment section here.

Read the full review at http://www.candidmoney.com/candidreviews/review21.aspx

The new tax year

The 2010/11 tax year has now started. I've fully updated the site to relect this, but a quick recap on the major changes the new tax year brings..

Income Tax Personal Allowances – frozen, but reduce over £100,000

Personal allowances remain at 2009/10 levels (£6,475 for those under 65) rather than increasing with inflation (because inflation was negative over the period used). Income tax bands remain unchanged too.

However, your personal allowance will reduce by £1 for every £2 of income you earn above £100,000. So if your income exceeds £112,950 you’ll lose your entire personal allowance, effectively increasing your annual tax bill by £2,590 if you’re a 40% taxpayer or £3,237 if you pay 50%.

50% Income Tax

A new 50% tax rate applies to income over £150,000 – estimated to affect the top 1% of earners. Such earners also have to pay 42.5% tax on dividend income, equivalent to an extra 36.11% on dividends they receive (rather than the extra 25% paid by 40% taxpayers).

The State Pension - £2.40 weekly increase, qualifying years reduce to 30

The basic state pension for a single person has risen by £2.40 to £97.65 per week and by £3.85 to £157.25 for married couples. However, additional state pension elements such as SERPS/S2P are unchanged.

If you’re a woman then the age at which you’re entitled to a state pension is gradually increasing from 60 to 65 until 6 April 2020. You can use the DirectGov State Pension Calculator to find out your exact retirement date.

On a brighter note, you now only need 30 qualifying years of national insurance contributions to get a full basic state pension (it was 44 years for men and 39 for women).

Retirement Age Increase – from age 50 to 55

The minimum age at which you can take a pension is now 55, having risen from age 50.

ISA Allowances – £10,200 for everyone

The annual Individual Savings Account (ISA) allowance is now £10,200 for everyone eligible to contribute into an ISA. Up to half of this allowance, i.e. £5,100, may be held in a cash ISA with any unused balance (up to £10,200) available for a stocks & shares ISA.

Car Tax – free/more expensive tax discs for first year on new cars

If you buy a new car you’ll have to pay a different rate of tax for your first year’s tax disc. Buy a low emission car (less than 131 CO2 g/km) and it’s free, but buy a big polluter (more than 255 CO2 g/km) and it’ll cost you £955 – full details on the Direct Gov website.

The cost of standard tax discs has also changed, being a little cheaper for lower polluters and more expensive for higher polluters.

Pension allowances

The annual and lifetime pension allowances have increased to £255,000 and £1.8 million respectively, but will now remain at these levels for five years.

Pension contributions – reminder if you earn above £130,000

No change to the rules, but a reminder if your annual taxable income has exceeded £130,000 since April 2007:

If you increase existing regular (i.e. monthly/quarterly) pension contributions and annual contributions exceed £20,000 then you'll have to pay tax on the excess to remove the benefit of higher rate tax relief.

If you make ad-hoc pension contributions, then your higher rate tax relief is limited to the lower of your average annual contribution over the three years to April 2009 and £30,000. Any excess is again taxed to reduce the tax relief to basic rate.

Anything else?

The inheritance tax nil rate band is frozen at £325,000 until 2014/15 and the annual capital gains tax allowance remans £10,100.

National insurance band and rates remain the same with the exception of a £2 increase to the lower limit (currently £95) at which the Government credits NI contributions to low earners as if they had been paid.

Benefits such as Working Tax Credits, Child Tax Credits and Child Benefit have generally increased.

Read this article at http://www.candidmoney.com/articles/article88.aspx

Historic annuity rates?

Question
Please advise where I can see an historic table of annuity rates. I see these week by week in papers/ magazines but would like to be able to track the performance over several years by provider or average collective rate for the various types of annuity eg impaired, joint etc.Answer
Good question and one that I tried to find an answer to when building this site.

I'm afraid the simple answer is that there's very little publically available information re: historic annuity rates. I ended up getting hold of some past level annuity rates from an insurer to power the chart at the top of the annuities page. It's not as comprehensive as I'd like, but you may find it helpful. When I can find an insurer willing to provide me with additional data I'll widen the scope of the chart(s).

Otherwise, the most comprehensive source I've found is www.williamburrows.com/rates.aspx, an annuity broker. The freely available information is still quite basic, but you can access extensive historic data by subscription (£100 for 24 hours or £250 a year).

If anyone has found a better, freely available source, please post details below.

Read this Q and A at http://www.candidmoney.com/questions/question177.aspx

Last minute ISAs & pensions

If you still want to use your 2009/10 individual savings account (ISA) or pension allowances then time is running out. However, provided you apply online you still have until midnight on Monday 5 April 2010..

Should you bother using the allowances?

I won’t cover whether an ISA or pension is worthwhile here, take a look at our ISA and pension pages to get a clearer idea of whether they’ll suit you. But if you think you want to use the allowances do you need to rush?

ISAs

If you don’t plan to invest more than £10,200 within an ISA (with no more than £5,100 in a cash ISA) in total across this tax year and next then relax, you can simply use next year’s from 6 April as that allowance should suffice.

Otherwise it’s probably worth securing this year’s ISA allowance provided you’re not paying for the ISA ‘wrapper’ and want to buy the underlying shares/funds or save cash anyway.

Pensions

As for pensions it’s unlikely you’ll fully fund your allowance both this tax year and next (as you can generally enjoy tax relief on the lower of your earnings and £245,000, rising to £255,000 next tax year). However, if you’re a higher rate taxpayer then contributing to a pension this tax year allows you to reclaim the additional tax relief via your 2009/10 tax return; contribute after 5 April and you may have to wait longer.

Do I need to choose the investments now?

No. Buy your stocks & shares ISA via a fund supermarket or stockbroker and you’ll usually have the option to hold cash for up to a few months while you decide which investments to buy. Most pensions also have a cash option which you can use for as long as you like.

What else should I bear in mind?

When investing online you’ll need to have sufficient funds in the current account linked to your debit card. You’ll also probably need your National Insurance number to hand.

Cash ISAs – buying online

Not all cash ISA providers accept online applications, especially if you’re not an existing customer. Here's a couple of examples that do:

Marks & Spencer Money Cash ISA 2.65% (includes 1.25% bonus for 1st 18 months) – you can apply online until 1pm on 5 April and 4pm by phone 0808 002 2222.

NS&I Direct Cash ISA 2.5% - you can apply online until midnight on 5 April.

Stocks & Shares ISAs – buying online

You can buy fund-based 2009/10 stocks & shares ISAs through the Cofunds and FundsNetwork fund supermarkets until midnight on 5 April. Even better, save money by going via a discount broker - read our ISA Discounts Action Plan for full details of 20 discount brokers.

If you want to buy shares, investment trusts or ETFs then most stockbroker self-select ISAs are available online until midnight on 5 April, including Interactive Investor, Alliance Trust Savings and TD Waterhouse.

Pensions – buying online

You can buy several stakeholder and self-invested personal pensions (SIPPs) online until midnight on 5 April. Legal & General accept stakeholder applications online while Hargreaves Lansdown and Funsnetwork accept SIPP applications. Read our Choosing a Personal Pension Action Plan for more details.

Finally, remember that even if a provider accepts ISA or pension applications online up until midnight on 5 April, if the application fails to reach them in time then it’s your problem not theirs. So give yourself plenty of time to complete the application in case of technical glitches.

Happy Easter!

Read this article at http://www.candidmoney.com/articles/article87.aspx

Buying property with a friend?

Question
I own my own property (2 bed flat in North London) and I am thinking of buying another property with one of my best friends (I would then rent my current place out, and we would live in the new place). He would be a first time buyer.

I am pretty comfortable with the whole residential mortgage process etc, but please could you tell me how easy/hard it is for two people to purchase a property together and how we would go about it.Answer
Good to hear from a fellow North Londoner!

If your friend hasn’t purchased a property before (worldwide not just UK) then he should be able to benefit from the increased stamp duty threshold of £250,000 for first time buyers announced in the recent Budget. However, to qualify the property would have to be purchased in his name only which is unlikely to be practical given you wish to purchase jointly.

Otherwise the process is quite straightforward provided you watch out for a few potential pitfalls.

Most lenders will let you apply for a joint mortgage with a friend and as the market appears to be easing hopefully you should be able to get a competitive rate - although you’ll probably need a deposit of at least 25% to access the best mortgage deals.

However, under a joint mortgage you would both be fully responsible for the whole mortgage. So if you fall out and your friend stops paying his share of the monthly payments you could end up footing the whole bill. Because of risks like this it’s wise to draw up a legal agreement beforehand covering all likely (and unlikely) scenarios. Issues it should cover include:

• Your percentage shares of the property and mortgage (if tenants in common – see below)
• What happens if one of you wants to sell?
• What happens if one of you wants to leave and rent out their share?
• What happens if one you dies? (It’s a good idea to ensure you both have sufficient life cover to repay your share)
• What happens if one of you can no longer afford mortgage repayments? (e.g. you lose your job)


• What happens if one of you simply stops repaying the mortgage?

Some money spent on legal fees now could save a lot of potential tears further down the line.

You’ll also need to decide whether to own the property as joint tenants or tenants in common.

If you own jointly you’ll have equal shares and if one of you dies the other will automatically own the property. This works for married or civil partners but makes less sense when buying with a friend.

Buying as tenants in common is likely to make more sense as you’ll each have a separate share in the property that need not be identical. This allows you to leave your share to someone else (e.g. relatives) in your will – if you haven’t already written one you should when taking this route.

Finally, bear in mind that of you live in the new property with your friend this will become your main residence. If you then sell your existing property you could be liable to capital gains tax on any profits, although you should be ok if s3lling within three years of moving out. You can read more details about Private Residence Relief on the Directgov website http://www.direct.gov.uk/en/MoneyTaxAndBenefits/Taxes/TaxOnPropertyAndRentalIncome/DG_4020890.

Good luck if you go ahead and remember to offset mortgage interest and all other available income tax allowances on rental income from your existing flat when you rent it out.

Read this Q and A at http://www.candidmoney.com/questions/question176.aspx