Property Authorised Investment funds
Taxation
Distribution Methods
Main conditions and features
- Taxation moves from the fund to the investor
- Rental profits and other property related income are exempt from taxation in the fund
- Subject to corporation tax at 20%
Distributions split into 3 methods
- Property income (non tax payers can reclaim)
- Interest income (paid gross)
- Dividends (paid without deduction of tax)
Only OEIC can qualify as PAIF’s
Main Conditions
- At least 60% of the net income in an accounting period must be exempt from the property investment business
- At end of accounting period the value of assets sold must be at least 60% of the total assets held by the PAIF
- Must be widely held, no corporate investor holding 10% or more of the funds NAV
Main Features are
- Cannot borrow money
- Any income and capital gains is subject to up to 20% tax within the fund
- Assessed by regular valuations
Real Estate Investment Trusts
What are they
Conditions must be met
Tax purposes
Internal and Investor Tax
Must be close ended so cannot be OEIC
Two separate tax purposes
- A ring fenced property letting business which is exempt from corporation tax
- The remaining non ring fenced business which contains any other activities
Certain Conditions must be met:
- At least 75% of the company’s total gross profits must be from the property rental business
- At the beginning of each accounting period the total value of the assets in the tax exempt part of the business must be at least 75% of the total value of the assets
- REITS cannot have excess amount of debt financing
Internal Tax
- At least 90% of the profits of the tax exempt part of the business
Investor Tax (Compromise of two elements)
- Payment from ring fenced part of the business that is exempt from corporation tax
- (Treated as income tax, non tax payers can reclaim the tax deducted, ISA’s and SIPPs receive payment gross) - Dividend payment from the non ring fenced part of the business that is not exempt from corporation tax
- Treated same way as any other UK dividend - Gains of REIT’s shares are subject to CGT in the usual way
Enterprise Investment Scheme (EIS)
Tax Relief % , amount up to and term
CGT
Main Conditions
Small, higher risk unquoted companies
Tax Relief of 30%
- Claim up to maximum of £1m or up to £2m invested knowledge intensive companies
- Relief withdrawn if not held for 3 years, except to wife and not on death of investor
Investor can carry back income tax relief to previous years
Payment of Capital Gains can be deferred by reinvesting the gains into an EIS (No upper limit)
- Held for 3 years
- Loss can be offset against CG or income tax
Main Conditions
- Non UK resident is eligible. Only claim tax relief against any liability to UK Income tax
- No income tax relief is given if more than 30% of CG is acquired
- Must have fewer than 250 full time employees
- Gross assets of company must not exceed £15m
- To qualify for relief, company must have raised no more than £5m under all venture capita schemes in the twelve months ending on the date of the investment
Seed Enterprise Investment Schemes
Allows individuals to treat 50% of a gain as exempt from CGT, if shares are disposed three years, any gains is free from CGT
Income tax relief is also available at 50% on a maximum annual investment of £100,000, must be held for 3 years.
Business IHT relief of 100% for IHT available after 2 years
Main Conditions the company must
- Be unquoted at time of issue
- Employ 25 people or less
- No more than 2 years old
- Have less than £200,000 in gross assets
Venture Capital Trusts
Similar to investment trusts
- Income tax relief is at 30% up to a maximum investment of £200,000. Must be held for 5 years
- Dividends received from VCT investments of up to £200,000 per tax year are exempt from income tax
- Gains arising of disposal of VCT shares are exempt from CGT, no minimum period which shares must be held for
- Any losses on VCT shares are not allowable losses for CGT purposes, neither are they available to offset other capital gains
Conditions
- Must be listed on LSE
- Money raised must be used in 2 years
- At least 80% of their investments by value myst be qualifying holdings which are newly issued shares
- Not more than 15% invested in one company or group
- 70% of holdings must be in new ordinary shares that have no preferential rights
- At least 10% of the total investment in any one company must be ordinary non preference shares
- Company raising money under VCT must have fewer than 250 people
- VCT company must have raised no more than £5m under all venture
Derivatives
Exchange traded
Over the counter
Two Types
- Futures
- Options
Exchange traded which are bought or sold on recognised exchanges
- Standardised terms and conditions.
Over the counter (OTC) when they are created and sold directly to customers by banks and other financial institutions
- Tailored to suit the requirements of the client
- Futures are ETF contracts. Legally binding agreement to buy or sell an asset at a specified future date at a price that is agreed. Think of Forex investing
- Buyers are said to have a long position, purchase an underlying asset in the future for an agreed price
- Sellers are said to have a short position, obligation to deliver the underlying asset at some date in the future
- Both parties, counterparts have to honour their obligation
- Buyer and seller of contract deposit an initial margin with an independent third party
- NYSE life uses service of the London Clearing House (LCH)
- Initial margin acts as collateral that can be used if needed to fulfil either side of the contract
* * Risk is limitless
At expiry of contract, client will already have credited with the profit or have paid the loss if the contract went against them
- Options gives the buyer the right but not obligation to buy or sell a specified asset at a fixed price before or on a certain date in the future. Fixed price is called strike price or exercise price
- Call option gives the buyer of the option right to buy the underlying asset
- Put option gives the buyer the option the right to sell the underlying asset
- The seller of a call option must sell the underlying asset to the option holder
- Seller of a put option must buy the underlying asset from the option holder
- Seller of a call option must sell the underlying asset to the option holder
* ** risk is limited to premium paid for the option plus transactional costs
Choices to option holders
1. Exercise the option
- Option that can be exercised at expiry is known as European style
- Exercised at any time in its life is known as American style
2. Sell the option before expiry
- Instinct are known as in the money, those without any are known as out of the money
3. Let the option expire worthless
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Examples of Futures and Options
Using futures
- If the market falls the profit on the futures contract can be used to offset the capital loss on the reality portfolio
- The risk for the fund manager is that if the market rises, there will be a loss on the futures contracts which offset the capital gain of the portfolio
- Either way the fund will remain static i.e. it is hedged
Using options
- Alternatively the fund manager can buy a ftse 100 put option
- If the market falls below the exercise price of the option the gain on the option will compensate for the fall on the capital value of the portfolio
- If the market rises the fund manager could let the option expire
- The risk for the fund manager is limited to the premium paid for the option plus transactional costs
Benefits of using futures
- Lower dealing cost
- Speed of dealing
- Liquidity i.e. the ease of trading any volume at any time without drastically affecting market prices
