Question
Since Corporation Tax is deducted from dividends paid by UK companies is it a good move to have Equity Income Funds invested in ISA's or would it make more sense to have only growth funds within the ISA wrapper and leave Equity Income investments outside of the ISA?Answer
From a tax point of view you're actually better off holding interest paying investments, such as corporate bonds within ISAs. A brief overview as follows:
As you mention, dividends are paid out of company profits on which corporation tax is paid. They're effectively deemed to be paid net of basic rate tax, although this cannot be reclaimed by non-taxpayers, nor within an ISA/pension. Basic rate taxpayers have no further tax to pay while higher rate taxpayers owe an extra 25% of the dividend received (based on current tax rates). So basic rate taxpayers will not save any income tax by receiving dividends within an ISA, but higher rate taxpayers will save 25%.
As for gains, they're tax-free within an ISA. Outside of an ISA you can offset realised gains (i.e. actual gains from selling, not paper gains) against your annual capital gains tax allowance, currently £10,600. So this may not be an issue, depending on the level of gains you anticipate outside of ISAs.
Interest received within ISAs is tax-free. This means basic rate taxpayers save 20% income tax and higher rate taxpayers 40% on income from the likes of gilts and corporate bonds held within ISAs.
Of course, no point holding interest paying investments within ISAs to save tax if you wouldn't otherwise buy them. But if you do have some then these should generally take precedence in your ISA unless you regularly exceed your annual capital gains tax allowance.
Whether equity income or growth investments should be preferred within ISAs depends on your tax position. For example, basic rate taxpayers who don't regularly use their capital gains tax allowance won't save tax from holding either in an ISA, whereas a higher rate taxpayer would at least avoid paying extra income tax on dividends.
But I think the bottom line is invest in what you believe in,. then look at tax as a secondary consideration. And provided you're not paying for an ISA wrapper then use one anyway, even if you won't save tax at first - it makes admin simpler and might save tax in future if your situation changes.
Since Corporation Tax is deducted from dividends paid by UK companies is it a good move to have Equity Income Funds invested in ISA's or would it make more sense to have only growth funds within the ISA wrapper and leave Equity Income investments outside of the ISA?Answer
From a tax point of view you're actually better off holding interest paying investments, such as corporate bonds within ISAs. A brief overview as follows:
As you mention, dividends are paid out of company profits on which corporation tax is paid. They're effectively deemed to be paid net of basic rate tax, although this cannot be reclaimed by non-taxpayers, nor within an ISA/pension. Basic rate taxpayers have no further tax to pay while higher rate taxpayers owe an extra 25% of the dividend received (based on current tax rates). So basic rate taxpayers will not save any income tax by receiving dividends within an ISA, but higher rate taxpayers will save 25%.
As for gains, they're tax-free within an ISA. Outside of an ISA you can offset realised gains (i.e. actual gains from selling, not paper gains) against your annual capital gains tax allowance, currently £10,600. So this may not be an issue, depending on the level of gains you anticipate outside of ISAs.
Interest received within ISAs is tax-free. This means basic rate taxpayers save 20% income tax and higher rate taxpayers 40% on income from the likes of gilts and corporate bonds held within ISAs.
Of course, no point holding interest paying investments within ISAs to save tax if you wouldn't otherwise buy them. But if you do have some then these should generally take precedence in your ISA unless you regularly exceed your annual capital gains tax allowance.
Whether equity income or growth investments should be preferred within ISAs depends on your tax position. For example, basic rate taxpayers who don't regularly use their capital gains tax allowance won't save tax from holding either in an ISA, whereas a higher rate taxpayer would at least avoid paying extra income tax on dividends.
But I think the bottom line is invest in what you believe in,. then look at tax as a secondary consideration. And provided you're not paying for an ISA wrapper then use one anyway, even if you won't save tax at first - it makes admin simpler and might save tax in future if your situation changes.
Read this Q and A at http://www.candidmoney.com/askjustin/788/most-tax-efficient-investments-in-isas
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