New Year Resolutions worth the effort (And learning from snow shovels)
All articles in this section are provided courtesy of Master Investor Magazine and are not necessarily the views of Alan Steel Asset Management.
According to analytical researchers with nothing better to do at this time of year, most of us making New Year Resolutions will at best survive a week or so before slipping into the same old bad habits. According to a poll of a couple of thousand of us in January last year, at least half of us setting New Year Resolutions admitted to lacking the willpower to last under any new regime until February, if we're lucky. It's the same every year apparently.
So what are your priorities for 2018? How about resolving not to over-react when rolling "shock horror" headlines trigger unnecessary panic amongst nervous investors? I'm sure you can remember a few false panic alarms from last year. Or why not promise to check that you're maximising the tax reliefs you're entitled to? Let's face it, there aren't many things in life as rewarding as a bigger tax deduction. And it feels so good when you get a heads-up from HMRC that they're kindly sticking a tax-rebate cheque in the post to you. Ya beauty!
Now, you'd think that financial matters would be high on the list of any such Resolutions – simple things such as saving more. And in the right places too instead of leaving hardearned excess cash in boring deposits, Cash ISAs and the like.
But surprisingly in poll after poll, year after year, financial targets remain buried way down in the top ten of "popular" resolutions. Forty per cent of us say we want to exercise more, a
third of us fancy losing weight, while another third are drawn to eating more healthily… no more deep-fried Mars Bars then. One in six of us aspire to drinking less alcohol. Surely not! But our New Year financial resolutions are so insignificant they are hidden deep in tenth place, together with other unclear but unpopular "improvements", and quietly filed away under "Other".
I find that astonishing considering the widespread and growing evidence suggesting far too many of us are still completely unprepared for a decent standard of living in our later years. Consider these facts from the savings statistics released by The Treasury:
As at September 2017 the total value of what financial journalists call "Stocks and Shares" ISAs (containing Unit Trusts, Corporate Bonds, and oddities called OEICS, which were dreamt up by academics presumably in a clever attempt to confuse investors even further) came to a heady £247 billion. Sounds impressive, doesn't it? But…
Look what's in Cash ISAs – a whopping £270 billion! Now, given that the average Cash ISA is paying a mere smidgeon in interest – try 0.1% for size – and you'd think billions would be leaving to find better homes. Especially when you think it's now over eight years since interest rates were dropped by the Bank of England to the lowest rates since the 17th century. But no. Statistics show a fall in fresh inflows from over £50 billion in 2016, to £30 billion or so in 2017. How daft can savers be?
Well it gets worse. Statistics also show that in September a cool £185 billion lay wasting away in non- interest bearing bank accounts, while a further £170 billion in what's laughingly known as "interest bearing accounts" earned smidgeons – 0.1% per annum at most. Run that rate through "The Rule of 72" simple calculator, and you'll spot that, even if the return's tax free, it takes 720 years to double your money. Ouch!
Then there's the financial media's favourite "savings plan" of the 1990s, With Profit Bonds. Remember them? Bought by the bucket load they were. Sold as a "safe" alternative to deposits
and based on the "tried and trusted" Endowment policy. Billions poured in. Then they ran into trouble as the millennium introduced the dotcom boom and bust. Small print came to the rescue of insurance companies who designed these "safe" alternatives. Penalties popped up called "Market Value Adjustments". Savers faced big losses. So they sat on their hands waiting for better times.
It's funny we don't hear about these With Profit Bonds anymore. And isn't it odd it's so difficult to find out how much is still "invested" in them. The best I could find was a report showing totals in 2015. Would you believe that it was £278 billion? Mind you, with an average return that year of 2.2%, at least they did better than Cash ISAs and Deposits. Though why so much still sits festering in bland funds liable to tax internally (unlike ISAs) is beyond me.
Discounting even more billions eroding away in "Money Market Funds", why is over £900 billion sitting in these dire so-called investments when over the last eight and a half years "Cautious Monthly Income ISAs" have paid out to investors around 5% tax-free income annually, and simultaneously grown the invested sum well above inflation? Doesn't make any sense, does it?
Why is it that too many of us, including otherwise serious investors, leave hard-earned money in such daft places? Why do so many switched-on higher-rate taxpayers pay such little attention
to ensuring they aren't paying more tax than necessary? And by the way, my experience is that the more you earn and the wealthier you become, the less likely you are to bother about details like tax efficiency. And the worst offenders are those connected to the financial industry – investment
professionals, accountants, lawyers and judges. Up here in Scotland this is known technically as "Cobbler's Bairns Syndrome".
So let's zero in on areas that could do with a Resolution revisit….
Why not give serious thought to swapping deposits and Cash ISAs for Equity Income ISAs? Consider the upside: more tax-free income plus the opportunity to grow your savings simultaneously. Of course, the value of Equity Income type funds can slip from time to time, but your income stream should be unaffected. At least that's my experience since I became an IFA 45 years ago.
You wouldn't believe how many times I've come across higher-rate taxpayers that haven't bothered to claim back their extra tax relief on their contributions to pension plans. Yes, really. So for 45% taxpayers sticking away a mere £10,000 they're turning their backs on an extra £2500. It's a slightly smaller rebate for 40% taxpayers but still enough for a nice tax-free break in Gleneagles.
A quick word for our Scottish readers: Following December's Tartan Budget and the introduction of Scottish Higher Income Tax (I wonder if they noticed it doesn't have an acceptable acronym like CGT or VAT), maybe next year there will be a slightly higher rebate for Scottish higher rate pension contributors – unless, of course, the Scottish Higher Income Tax hits the fan.
With the increasing annual Government tinkering with levels of tax reliev-able pension contributions for higher- income earners it's no wonder that "riskier" investments like Venture Capital Trusts (VCTs) are becoming more popular. What's not to like? 30% tax rebate on your qualifying investment, tax free income and capital distributions, potentially forever. Say no more.
The problem is too many investors are actually paying tax on income dividends that are supposed to be taxfree. Higher rate tax at that. So isn't it a good idea to resolve to check whether you're one of them?
Let me give you a couple of examples. One of our Law Lord clients decided that on retiring he'd have his tax returns looked after by us instead of the accountants he'd been using for years.On preparing his tax returns we discovered the income from his VCT had been added to his other dividends and
taxed. He was delighted to be the recipient of a £6,500 tax rebate. Even worse is the experience of a widowed lady client whose husband had been a top-rate taxpayer for many years and who had owned VCTs that were willed to her. Over dinner in Chutney Mary's excellent curry restaurant in St James' her returns came up in conversation. "Great income" she announced "but sadly not tax-free in my circumstances".
I assured her there was no reason that her income returns should be taxable whatever her tax adviser said. We sent him detailed HMRC notes on VCT taxation. A month later she phoned with the good news – a tax rebate of over £25,000! She bought a fancy beach hut with it. I'm not joking.
Be aware that VCT tax-free income can be passed to your partner when you depart this mortal coil, and on their demise passed down to the kids. What a nice legacy to leave. A tax-free cheque once or twice a year from an ancient VCT is every bit as exciting as an occasional tax rebate. Well worth a fresh yearly spot of resolution.
'Til death do us part
I won't bore you again going all the way through the tax benefits of Independent Taxation, or the huge benefits of turning taxable income into zero making use of annual Capital Gains Exemptions.
But I do want to talk about death again. I have seen what happens when folks die without a will and/or without proper planning, and I've acted as executor too many times. With this in mind, I'd like to bring something to your attention: charges made winding up estates.
Last month, being one of three executors, including the dearly departed's long-term lawyer, I was asked to agree to the lawyer's charges. On a relatively simple estate of just over £1 million, consisting of a house, a bank account and investments mainly contained in a simple platform (designed to make such a process pretty straightforward), the lawyer's bill came to over £36,000 – and was certified by an Independent Auditor as being acceptable!
A few years ago I was an executor along with the widow. Only the two of us. We asked for estimates from lawyers for winding up a much bigger and more complicated estate. The bill came to only £15,000. So be aware – when you're resolving to lower your exposure to charges don't lumber your family with a bill with an extra wreath pinned to it.
Beware recency bias
And finally, what can we learn from snow shovels? Where I live in Scotland with a steep "dead-end" road to our drive the snow-and-ice winters of 2009/2010 left my wife and me with no alternative but to abandon the Mercs on flatter ground and struggle home on foot. When the following year's November headlines quoted "well-known climate experts" who predicted more of the same thanks to something called "El Nino", it was obvious we needed to add a 4x4 to our vehicle collection. So we did.
The following weekend I visited my great friend Dougal who runs his wonderful garden centre. "Dougal", I said. "With your deep knowledge of wildlife, trees and plants, what kind of winter do you reckon is in store for us?" "A mild one", said Dougal confidently. "Mmm", I replied. "That's not what the experts are saying. Why do you think it's going to be mild?" "Because", he said, "4x4s are selling like cold cakes and we've run out of snow shovels."
He was right, by the way; it was one of the mildest winters for years.
So remember the snow shovels when you see constant predictions of doom, or indeed when you spot herds of investors rushing to buy (or sell) this and that. Do the opposite. Be contrary. As Johann Wolfgang von Goethe (1749 to 1832) said,
"I find more and more that it is well to be on the side of the minority, since it is always the more intelligent".