Inflation-adjusted returns?

Question
The historical real return on different asset classes. I wonder if you could publish figures for the inflation-adjusted return on asset classes, cash, gilts, bonds, equities etc., over various periods with your comments on how they should be interpreted? Figures for cash are often given without any details of whether they refer to LIBOR,
'average' savings rates, or the best savings rates that could reasonably be obtained.

Thanks for a great site.Answer
I agree that inflation-adjusted return figures are potentially far more useful than unadjusted figures. It’s something I’d definitely like to feature, along with lots of other statistical ideas I have, however getting hold of the underlying data is sadly not cheap. I looked at this when building the site and the price tag runs into thousands of pounds. Until such a time the site generates sufficient revenue I can’t really justify the expense.

You’re right to point out that cash figures are quite often ambiguous. When not specified it’s most probable that the data used is either an average of savings accounts or the Bank of England Base Rate – you'd expect returns from both to be lower than had you consistently held money in ‘best buy’ accounts (of course, most people don’t!). Tax is also an important factor that’s rarely reflected in such data. Unless you save/invest via ISAs then interest and growth will likely be taxed. Growth investments tend to fare better than savings in this respect (unless you’re a non-taxpayer) as individuals might be able to use their capital gains tax allowance to offset some, or all, gains.

I do have inflation data so I'll look at incorporating this into the savings charts already on the site.

Read this Q and A at http://www.candidmoney.com/questions/question150.aspx

Discretionary Trust investments?

Question
I am a trustee to a discretionary trust containing £150,000 in cash. Any income will shortly be taxed at 50%, therefore Growth is the necessary requisite.

Could you please offer your opinion as to:

1. In these current troubled times should one be even considering investing in the stock market. Should one be waiting to at least the general election?

2. Would you seek advice from an IFA? (I note your comments regarding Bestinvest but they require a minimum of £250,000 ) or could you make recommendations as to how I should invest this sum?

3. What are your thoughts with regard to an investment in Insurance Investment Bonds?

I am not adverse to average risk and a period of 5 to 10 years would be acceptable.Answer
Successfully predicting stockmarkets is difficult at the best of times. And in the current climate it’s nigh on impossible. Nevertheless, my gut feeling (for what it's worth) is that UK markets will do well just to stand still over the next year, as tax rises and spending cuts will undoubtedly bite regardless of which party wins the general election.

There might be a small bounce if there’s a change of Government, based on sentiment that fresh blood is required to help pull Britain out of its debt-laden economic hole, but I think this would be short lived as there's no miracle cure.

However, it’s not quite that simple as a good proportion of revenues generated by companies listed on the London Stock exchange generate earnings from overseas, so the UK is definitely no island when it comes to the stockmarket. What happens overseas is very important too.

The types of UK stocks that make most sense in these troubled times are well established cash rich companies that pay healthy dividends, but as you point out these won’t be very tax efficient within a discretionary trust (unless held in an investment bond – more on that in a moment).

I wouldn’t be in a rush to invest, but I think a mix of global stockmarket, commodity, commercial property and, to a lesser extent, corporate bond investments should stand you in good stead over the next 10 years.

Unless you’re comfortable picking investments yourself then I would suggest taking advice from a fee-based IFA, but be wary that they don’t try and charge upfront fees that end up being as expensive as commission (i.e. 3-5% initially). An hourly rate of £100-200 would probably suit you better than percentage based fees.

Alternatively, Bestinvest may still be able to help. While its discretionary investment service has a £250,000 minimum, its regular discount broking service does give advice on portfolios of £50,000 and above. The advice is funded by the trail commission received on underlying funds, typically 0.5% a year, which is a good deal as you’ll still benefit from full initial commission rebates (saving 3% +) when you purchase funds. As far as I’m aware, they’re the only discount broker that currently offers advice on this basis – if anyone knows of another please let me know.

I’m not normally that keen on investment bonds as they’re not particularly tax efficient for most people. However, they can work well in discretionary trusts because they’re not treated as income producing (provided you don’t withdraw more than 5% of the original capital each year – cumulative if not taken). This means you could hold dividend/interest producing investments within an investment bond without fear of being clobbered by the extortionate discretionary trust tax rates coming into force on 6 April this year (42.5% on grossed up dividends and 50% on other income).

Both income and gains are taxed internally at basic rate tax within the investment bond, but the trust shouldn’t have any further tax to pay until the bond is sold (subject to the 5% withdrawal limit). And when the bond is sold the trust may be able to first assign it to one or more of the beneficiaries, who can then potentially benefit personally from the ‘top-slicing’ method used to calculate tax owed on gains and income generated from investment bonds (not possible while the bond is in the trust). You can read more on top-slicing on our life investments page.

Just beware that investment bonds tend to pay high commissions to advisers (often 4-6% of the amount invested), so an adviser who works on either a fees or commission basis might be especially keen on the latter (whereas an adviser working on an hourly rate should refund all commissions to you). Also, if you opt for this route make sure the bond allows you to hold investments from across the marketplace, not just those offered by the insurer issuing the bond.

If you’re happy holding pure growth investments and capital gains tax remains at just 18% (unlikely) then an investment bond would offer little benefit. Otherwise it could be helpful.

Finally, remember that if income is paid out of the trust then the beneficiary may be able to reclaim tax paid by the trust provided they’re not a top rate taxpayer. See my earlier answer for more details . But this doesn’t apply to distributions from investment bonds.

Read this Q and A at http://www.candidmoney.com/questions/question146.aspx

Hold or sell Halifax PSBs?

Question
Halifax 9.375% Perpetual Subordinated Bonds - Hold or sell now and cut my losses?

I bought years ago at £1 and I believe the spread now is 80-98p! I'm not in a hurry, but wish to gather as many opinions as possible before making a decision. Your input would be much appreciated.

To find out the prices I have to phone a broker. Web sites that I have been able to find will only provide this information to professionally registered brokers. Do you know any sites where I can access this information?Answer
Your 9.375% Halifax Perpetual Subordinated Bonds (PSBs), stockmarket reference: HALP, are not due to pay a coupon (i.e. income) until early 2012 due to EU law preventing banks receiving state aid from rewarding holders of shares and debt by paying dividend and coupons respectively.

Lloyds Banking Group (which owns Halifax) offered HALP holders the option to switch into EU friendly Enhanced Capital Notes (ECNs), which allow coupon payments, late last year. Nevertheless, as far as I’m aware your PSBs offer cumulative coupon payments, so you should receive the missed coupons when income payments eventually resume (I’d suggest double checking this with Halifax).

Meanwhile, are they worth holding onto? Provided you don't rely on the income payments then It really depends on your views on what’ll happen to the Lloyds Banking Group (which incorporates HBOS). Provided the bank can survive the downturn and eventually alleviate itself from state aid you should see the price of your PSBs rise handsomely, assuming interest rates and inflation remain fairly low.

Is this likely? In this topsy-turvey world of banking and finance we find ourselves in nothing is certain, but I think it’s more likely than not.

PSBs tend to have a wide bid offer spread because there’s rarely many buyers or seller in the market (i.e. it’s illiquid). The financial crisis has only served to widen spreads on struggling banks, which is why you’d lose about 20% straight away if buy the 9.375% Halifax PSB at present.

Because the PSB market can be so illiquid the most reliable way to get an accurate price is to phone a broker. However the Selftrade website lists mid prices for PSBs and PIBS while the Bestinvest website appears to show the spread for your PSBs.

Good luck whatever you decide to do.

Read this Q and A at http://www.candidmoney.com/questions/question147.aspx

Will Equitable ever be sorted?

The Government continues to drag its heels over compensation payments to Equitable Life policyholders. Do they deserve compensation? And will they ever get some? .

Equitable Life is back in the news, or rather, on the political football field. It’s an issue close to my heart, because I was a director of a life company at the time the story kicked off, and so watched the denouement at the House of Lords with a personal interest.

We’ve had a judge and an Ombudsman picking over the bones at great length. The argument is simple: the regulators failed to regulate; policy holders ‘lost out’; and the taxpayer should be called upon to make good their losses.

The Government has dragged its feet, steadfastly refusing to admit that ‘compensation’ is due, but talking about making ‘ex gratia’ payments to the neediest victims. The usual suspects in the media have performed a shrill, self righteous chorus, demanding justice for the victims.

Equitable Life sold direct, and paid their sales people generously. Their customers bought the line about not paying commission to IFAs. They thought they were smart. They weren't. Many of them had far too many of their eggs in this one basket. Many of them should have known that if it looks too good to be true, it is probably too good to be true. Very few of them understood how a With Profits fund worked. Every single one of them had the option to get a second, third and fourth opinion from an independent. They chose to believe the Equitable Life sales person.

The Government – to say that I am not a fan is to demonstrate a heroic degree of understatement – has got this one right.

While the GAR (guaranteed annuity rate) problem was the proximate cause of Equitable Life's demise, the root cause was that Equitable Life, supposedly running a smoothed fund, held very little back with which to do the smoothing, and so managed to declare annual bonuses that topped the bonus tables by a mile every year.

The funds that did hold something back were of course pilloried by the same media singers on the basis that the money (quaintly termed the orphan estate) belonged to the policy holders and should be shared out immediately.

In everyday Law, if a plaintiff claims that he has ‘lost out’ he has to show that the actions of the defendant led directly to and were the cause of his loss.

If the regulators had moved in on Equitable Life early, and told them to stop being imprudent, what would have happened? Well, if the intervention had been made public, lots of people would have wanted out, and no-one would have wanted in. Even if it had been possible to keep the intervention secret, Equitable Life would still have had to trim - perhaps eliminate - annual bonuses while it built up its cushion of assets over liabilities. It may also have been forced to de-risk its assets ie sell equities and buy gilts. The net result might have been that the policy holders would have got more or less what they actually got when the GAR proverbial hit the fan.

The very idea of calculating compensation is barmy. Is there a mystic actuary somewhere who can establish: when the regulator should have intervened; on what basis; and what the consequences of the intervention would have been for the fund? Would the performance have been relatively strong, or weak, and if so by how much?

The Government is right to reserve the option not to rescue wealthy individuals from the consequences of their folly at the taxpayer's expense, and right to concentrate on ex gratia payments for the needy. They should get on with it, though.

The FSA failed to regulate the banks. I have lost a bundle in bank shares. Should the taxpayer compensate me?

Read this article at http://www.candidmoney.com/articles/article66.aspx

Commission rebate on Aviva bond?

Question
Where can I find a list of 'discount brokers'?

I am paying trail commission of 0.50% on a 7 year old Aviva Portfolio Bond worth about £35K, bought through Towry Law, and I understand from a recent edition of BBC2's 'Working Lunch' that you can transfer to a 'discount broker' and receive part of the trail commission back each year?Answer
I’ve been meaning to put together a comprehensive list of discount brokers, including the discounts and services offered, for some time. Your question is a good prompt so I’ll try and get something on the site within the next couple of weeks.

Unless you need ongoing advice (which I’m assuming Towry Law haven’t been giving you) then getting a trail commission rebate would be well worthwhile. If you do want ongoing advice then you could try and find an adviser who’ll be happy to oblige in return for the trail commission.

Your cheapest discount broker option is probably Cavendish Online, who refund all trail commission in exchange for an initial £35 charge and £10 annual fee. Given the annual trail commission on your bond is currently around £175 this seems like a decent deal.

Alternatively Club Finance will rebate 75% of the trail commission without charging you any fees. So you’d expect to receive about £131 of the £175 commission.

If you want to find out more about getting trail commission rebates you’ll hopefully find the ‘action plan’ I’ve just put together helpful.

As an aside you might want to investigate whether the investment bond is worth holding onto. If you’re a basic rate taxpayer there’s no income tax benefit and gains are taxed at source, which is less favourable than conventional investments where gains can be offset against your annual capital gains tax allowance. It would also be worth checking the underlying bond investment fund(s) to see whether it’s any good – if not you may have the option to switch funds within the bond.

Read this Q and A at http://www.candidmoney.com/questions/question148.aspx

Tax paid vs tax credit

Question
What is the difference between 'tax paid' and 'tax credit'. On income from building societies the tax has been deducted and you receive the 'net' amount, but on a dividend received from a VCT it has 'tax credit'.Answer
Tax paid is, as the name suggests, when tax has already been deducted and paid on income. It usually applies to interest payments from bank and building society accounts, although if you’re a non-taxpayer you can arrange for interest to be paid gross by completing HMRC form R85.

Tax credits, which apply to dividends (and shouldn’t be confused in this context with the state benefits of the same name), are not quite so obvious.

Dividends are paid out of a company's profits, which have already been (or will be) taxed. Because of this HMRC attaches a 10% ‘tax credit' to dividends and then taxes basic rate taxpayers at 10% and higher rate (40%) taxpayers at 32.5% on the 'gross' dividend (i.e. the dividend plus the tax credit).

The upshot is that basic rate taxpayers have no extra tax to pay, as the credit cancels out the tax owed and higher rate taxpayers must pay an additional 22.5% on the 'gross' dividend, equal to 25% on the dividend they actually receive.

Thanks to a Gordon Brown 'stealth' tax, non-taxpayers and individual savings account (ISA)/pension/venture capital trust (VCT) investors are unable to reclaim the tax credit, so they're no better off than basic rate taxpayers.
A quick example should make this clear:

Company X pays a dividend of 90p with a 10% tax credit attached. In the hands of an investor this is notionally grossed up to 100p then taxed at 10%, so it’s worth 90p to everyone except higher rate taxpayers.
A higher rate taxpayer must pay 32.5% tax on 100p, reducing the dividend to 67.5p after tax (which is also equal to 90p less 25%).

Had the higher rate taxpayer held the shares in an ISA, pension or VCT they could have avoided paying the extra 22.5p tax. But non-taxpayers and ISA/pension/VCT investors can never reclaim the 10p automatically deducted from the 100p gross dividend.

Read this Q and A at http://www.candidmoney.com/questions/question149.aspx

Implications of Kraft shares in an ISA?

Question
Since the take-over of Cadbury plc by Kraft Foods of America, I now hold some Kraft shares in my ISA portfolio. Please would you explain the implcations of retaining these foreign shares.Answer
Holding foreign shares within an individual savings account (ISA) is much the same as holding shares listed on the London Stock Exchange, with three potential differences: trading fees, currency and withholding tax.

Kraft shares are traded in US dollars on the New York Stock Exchange. This means that movements in the pound/dollar exchange rate will affect the value of your investment – in much the same way when buying foreign currency for holidays, but in reverse. For example, $1,000 of shares would be worth £625 at an exchange rate of $1.60 to £1. If the dollar falls to $2 to £1 the shares would only be worth £500.

Dividends will also be paid in US dollars. You should check whether your stockbroker charges to convert these back to pounds – ideally the conversion should be fee-free and carried out at an institutional exchange rate to ensure you get a good deal.

US dividends will also be paid net of a 30% withholding tax. Under the 2001 US/UK Double Taxation Treaty you should be able to reclaim 15%, so that you pay no more than 15% tax on the dividend (ignoring any UK higher rate liability you might have if the shares are held outside of an ISA). However, this requires your ISA manager to process a US W-8BEN tax form – I don’t think all managers offer this facility so this is something else to check with your stockbroker.

Finally, most stockbrokers charge higher dealing fees for overseas shares versus those on the London Stock Exchange, so you could find yourself paying more to sell the Kraft shares than you would have done to sell Cadbury shares.

Read this Q and A at http://www.candidmoney.com/questions/question145.aspx