The OEIC versus bond debate is ongoing and adapts yearly with the tax environment, essentially always navigating the tax concessions available, and as with all financial products â€˜suitabilityâ€™ is the key to the actual client.
Open Ended Investment Companies (OEICS) as direct investments have 3 opportunities for tax free income:
- The personal allowance
- The Savings allowance on interest of Â£500
- The dividend allowance of Â£2000
Lower tax on dividends of 7.5%, 32.5%, and 38.1% above the allowance according to tax bracket are also beneficial from a planning perspective.
But to complicate things, some will not be able to avail of themselves of all the above breaks tax wise. For a business owner who relies on income from dividends, the personal allowance is likely to have been â€˜consumedâ€™, along with the dividend allowance in entirety- hence the only benefit will be the savings allowance of Â£500. Furthermore, pensioners will often have a fixed income which exhausts the personal allowance.
The optimum portfolio size if relying on OEICS peaks at Â£60,000-Â£65,000, as above this, the dividend allowance will likely be wiped out, together with the savings allowance on interest earned on portfolios over Â£15-16,000.
The further capital gain tax allowance of Â£11,700 is available to OEICS on sale or transfer of the asset, and the liability to tax above the allowance on the gain is dependent on tax bracket (10% for basic rate, and 20% for higher rate payers). If they are held until you die they do not attract any capital gains tax but are re-based (after IHT!) for the person who inherits them wiping out all gains at that point.
If you choose to wrap your OEICS in a bond, either offshore or onshore, the CGT is not applicable on sale of an OEIC, provided the asset remains within the bond.
Bonds owners are taxable in the event of a â€˜chargeable gainâ€™ as opposed to a Capital Gain where the portfolio is concerned. Essentially these are only triggered once a withdrawal is made that exceeds any allowance. This clearly allows more flexibility in terms of management of the assets of the portfolio, where the only parameter from a tax perspective is the amount that can be withdrawn annually tax deferred within the 5% drawdown facility, and the portfolio is by and large able to grow with little liability to tax.
OEICS within an onshore bond will be taxable at 20% on the interest earned within the bond, but Off shore bonds are exempt from this. And dividends are exempt in both scenarios.
Bonds therefore allow an efficient way of re-balancing portfolios without cumbersome administrative process and unnecessary tax charges. They can be gifted with no tax charge arising and for the larger portfolios (which will be more than likely held by higher rate tax payers) they will require less management to avail of tax breaks.
With any good debate there are good arguments from all vantage points, and thus potentially the bottom line is there is no bottom line. Bonds, OIECS or BOND and OEICS, suitability is â€œkeyâ€ and the art of the good planner will likely include a diverse approach with exposure to all, according to suitability.