New Zealand - where John and Jackie are enjoying our Winter, and their retirement (Photo: Flickr/<a href="https://www.flickr.com/photos/chrisstevensphotography/1088249155/">Chris Stevens</a>)

New Zealand – where John and Jackie are enjoying our Winter, and their retirement (Photo: Flickr/Chris Stevens)

Often the benefits of a good Chartered Financial Planner are not directly quantifiable. We seek to give individuals a plan which helps them to achieve their lifetime goals and whilst this gives significant peace of mind it is hard to assess the monetary value in many cases.

However a great financial plan is ordinarily a tax efficient plan, and this case study shows one individual who we have helped to achieve a significant level of “income”, required to meet their standard of living, in a far more tax efficient way than they would have drawn without advice.

John and Jackie Hines (both 60) had previously run a business and was drawing a dividend in addition to a small basic salary. After the sale of their business they still require £8,000 per month to achieve everything that they want to do in their life. This is an average sum made up of regular costs for example heating, lighting and running their home and also ad hoc costs such as holidays and their wish to run a series of cars in the family.

When the business was running John and Jackie who were co-directors (50%/50%) of the company with a salary of £10,000 and dividends of £32,000 each. The dividend was paid by the company after corporation tax was deducted (at 20%) and they had very little additional tax to pay. This gave them a total income of £84,000 for the two of them and year achieved more than what they wanted.

Now they have retired they accept they will have more time travelling and also suffer costs the business paid, for example running the cars and most of their travel expenses.

Current Situation

John had previously taken advice from the financial advice arm attached to his accountants; it helped him to be more tax efficient but did not give him a strategic plan for the longer term.

On the sale of the business John had accumulated a pension with a value of £1 million and had not applied for any previous form of fund protection. On the advice of the accountants he had paid some contributions in the last few years and from the sale of the business he had also netted £1 million after payment of capital gains tax. Both he and his wife had saved into cash ISAs of £250,000 each.

The sale of the business was split 50/50 as they were 50/50 owners.

The position in retirement

John was introduced to our firm by a friend in his village, who had been in a similar situation and helped by me to retire. My recommendations are summarised below.

Each of Jackie and John paid £250,000 into a personal portfolio; an appropriate set of investment funds. These funds are Collective Investments which are run at a modest cost as their investments are pooled with other like-minded investors. In the first year (2015/16) £15,240 has been used to fund an ISA with us already earmarking £15,240 each to continue to fund the ISAs in subsequent years.

From this personal portfolio they will draw an “income” each year although as most of this is a return of their capital they will not pay any tax. They are also entitled to £5,000 dividend without taxation. Based on our modelling this portfolio which generate the following returns:

  • Dividend 2% (from the equity and property portion of the portfolio)
  • Interest 2% (from the gilt and corporate bond portion)
  • Capital growth 2% (from the potential appreciation, mainly in share values)

The £250,000 of cash ISAs was transferred to investment ISAs, with a commensurate level of cash from the sale of the business being held personally in Jackie’s name as she wouldn’t have the pension.

The Hines accept this is “too much” cash, but they felt they might need some to fund children’s property purchase, and value having this level ready. They can receive 1.25% interest from an NS&I account which is backed by HM Treasury – safe and a reasonably good cash return.

The ISAs generate the same as the personal portfolios, but with no limits on what can be paid without additional tax. We agreed only to withdrawal the natural income, and leave any capital growth for ‘rainy days’.

There is a strong argument to leave the pensions alone as well as they grow free of income and capital gains tax and they are also inheritance tax free on death, but after discussion we decided that a taxable income of up to the personal allowance will be drawn as detailed below with additional requirements being met by a capital withdrawal.

The remaining £500,000 was invested in an ‘international portfolio bond’ – a capital investment which grows virtually free of income and capital gains tax. Any tax due can be deferred until either the bond is surrendered, or the original capital is invested. Up to 5% can be paid without incurring tax charges before one of these events occur (cumulative), to start with we took just under 3% to allow future inflationary increases.

The pension paid a 25% tax-free lump sum but only on a proportion of the fund that would generate an income up to his personal (taxed at 0%) allowance.

Tax Paid 2016/17

The table below shows how in the first year they pay no tax.

Investment “wrapper” Payment to John Payment to Jackie Payment to both Tax on John Tax on Jackie Notes
Pension – tax-free lump sum £3,667 £0 £0 N/A N/A 25% lump sum
Pension – taxable income £11,000 £0 £0 N/A N/A Uses all personal allowance
Personal portfolio – dividend £4,390 £4,390 £0 £0 £0 Within £5,000 allowance
Personal portfolio – interest £4,390 £4,390 £0 £0 £0 Within £5,000 allowance
Personal portfolio – capital drawdown £10,976 £10,976 £0 £0 £0 Capital – not taxable
Bond withdrawal £0 £0 £13,131 N/A N/A Capital – not taxable for c. 30+ years
NS&I Cash – interest £0 £6,250 £0 Over £5,000 allowance, but within personal allowance
NS&I Cash – capital drawdown £0 £0 £0 N/A N/A Capital – not taxable
ISA – dividend £5,610 £5,610 £0 £0 £0 ISA – not taxable
ISA – interest £5,610 £5,610 £0 £0 £0 ISA – not taxable
ISA – capital drawdown £0 £0 £0 N/A N/A ISA – not taxable
Totals £45,643 £37,226 £13,131 £0 £0  
Grand Total income £96,000

The alternative

Before our planning, the Hines were trying to get £62,700 each gross – the amount their accountant had calculated they needed from their savings! This was hard, and very inefficient, due to the spread of their assets. Because of this they would’ve needed even more taxable income from John’s pension meaning to fund a £96,000 per annum cost of living they had worked out total gross income of £140,000 would be paid.

Put another way, our strategy reducing the tax burden (and investment return needed) by over £40,000 per annum!

Summary

The above is only very rough but shows the benefit of good tax planning and using efficient investment tax wrappers.

It is anticipated that the personal portfolio will be whittled away, but the ISA and pensions grow to compensate. By taking no additional investment risk we have managed to increase their returns after tax and give them a level of income that they require for their life at the same time the investments will realistically continue to grow with a significant amount being outside of their estate for purposes of inheritance tax.

If you feel any of these issues affect you please do not hesitate to get in contact.

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