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Plan for tax and don't hoard so much cash

Our reader should consider reducing cash and do some tax planning
March 16, 2017, Greg Crawford & James Norrington

Winston is 62 and has been investing for 30 years. He and his wife own their home, which is worth £300,000, and a holiday home worth £110,000, both of which are mortgage-free.

Reader Portfolio
Winston 62
Description

Isas & Sipp

Objectives

Income of £20,000 a year in retirement

Portfolio type
Preserving wealth

"I intend to retire at 65 when my current work contract finishes," says Winston. "There are many retired people working in my industry - oil & gas - as consultants even during this lean period, so this may be a consideration. My children are married and in a good position financially, so I'm just looking to support myself and my wife.

"My wife has already retired, but I realise that we could live for 20 years beyond retirement, so I will need to have some of my investments in equities - and am prepared to accept the risk that comes with these. I think we could live comfortably on £20,000 a year, plus our government pensions.

"I have released my paid up executive pensions from two insurance companies and put the money from them, worth £120,000, into a Bestinvest.co.uk self-invested personal pension (Sipp). I am in the process of selecting funds for this: should I invest the money in capital preservation and absolute-return funds, ie should this part of my overall portfolio be more conservative as I'm getting closer to retirement?

"I am also considering tracker or exchange traded funds (ETFs) for an equity portion.

"I also have £300,000 in cash, mainly in individual savings accounts (Isas). I don't know if within my overall portfolio this is too much, but I'm still not easy with developed market quantitative easing policies of printing money - especially when some people are forecasting a stock market correction. I treat this money as my safety cushion.

"My current portfolio has been built up using my Isa allowance and is held with Hargreaves Lansdown.

"I have also inherited another portfolio. Would it be better to cash this in and invest the proceeds in my personal portfolio, as I hold some of the same funds?

"My wife has £180,000 in investment trusts, which are held within an Isa. These are selected and monitored by her independent financial adviser, and we are quite happy with the results. Foreign & Colonial Investment Trust (FRCL), RIT Capital Partners (RCP), Scottish Mortgage Investment Trust (SMT) and Personal Assets Trust (PNL) account for 85 per cent of this portfolio, and there is 5 per cent in each of European smaller companies, global smaller companies and Asian investment trusts.

"Being in the stock market brings its own risk, which I have accepted since I started buying funds. I've been through a few market corrections, slumps and crashes since I started investing, and I try to keep in mind that historically it's been better to sit tight and keep my monthly contributions going - hopefully the compounding effect will assist my returns. My wife also does this with her investment trust portfolio.

"I try to avoid making too many decisions, and have always taken a long-term buy-and-hold approach.

"Hopefully my overall portfolio is diverse enough to capture the gains of both equities and bonds. I haven't bothered with property funds because, if required, we would sell our main house due to the fact we're spending more time at our holiday home.

 

Winston and his wife's portfolios

 

HoldingValue (£) % of portfolio
Axa Framlington UK Select Opportunities (GB00B7FD4C20)5,4150.73
Artemis Income (GB00B5ZX1M70)5,5100.74
Threadneedle UK Equity Alpha Income (GB00B88P6D76)5,8200.79
Standard Life UK Smaller Companies (GB00BBX46183)6,3600.86
Artemis Strategic Assets (GB00B3VDD431)6,6050.89
M&G Optimal Income (GB00B1H05718)5,8200.79
Jupiter Strategic Bond (GB00B4T6SD53)5,8800.79
Jupiter European (GB00B5STJW84)6,0150.81
Man GLG Japan CoreAlpha (GB00B0119B50)3,9800.54
Stewart Investors Asia Pacific Leaders (GB0033874768)11,2801.52
Rathbone Global Opportunities (GB00B7FQLN12)8,2801.12
CF Odey Opus (GB00B54RK123)5,7700.78
JPMorgan Emerging Markets (GB00B1YX4S73)5,3300.72
Cash300,00040.53
Wife's investment trust portfolio180,00024.32
Bestinvest Sipp120,00016.21
Inherited funds  
CF Miton Cautious Multi-Asset (GB00B0W1V856)10,6751.44
Newton Real Return (GB00BSPPWT88)7,8611.06
Troy Trojan (GB00B01BP952)6,6430.9
Stewart Investors Asia Pacific Leaders (GB0033874768)5,5500.75
CF Seneca Diversified Growth (GB00B7FPW579)5,1400.69
Invesco Perpetual Corporate Bond (GB00BJ04F760)3,8500.52
Schroder European Opportunities (GB0007221889)3,2180.43
Stewart Investors Global Emerging Markets (GB0030187438)3,1040.42
Aberdeen Emerging Markets Equity (GB0033227561)2,8750.39
Jupiter Strategic Bond  (GB00B4T6SD53)2,6160.35
Axa Framlington UK Select Opportunities (GB00B7FD4C20)2,5000.34
Newton Global Income (GB00BLG2W994)2,5500.34
Liontrust Special Situations (GB00B57H4F11)1,6150.22
Total740,262 

 

 

 

NONE OF THE COMMENTARY HERE SHOULD BE REGARDED AS ADVICE. IT IS GENERAL INFORMATION BASED ON A SNAPSHOT OF THE READER'S CIRCUMSTANCES.

 

 

THE BIG PICTURE

Chris Dillow, Investors Chronicle's economist, says:

Many readers might think that an explicit cash weighting of almost half your wealth is too high. Whether it is or not comes down to how much you value security versus returns.

But with returns on cash negative in real terms, and likely to remain so for a long while, you are paying a high price for security. Such a weighting means that if equity returns are around average, getting £20,000 a year out of your portfolio would on average mean having to run down your wealth slightly. There's nothing wrong with this: the rundown would be small in an average year. Just be aware of the price you are paying for peace of mind.

I don't think you can mitigate this problem by using absolute-return funds. Many of these make only moderate returns and some charge high fees. You can largely replicate the returns such funds offer by having a balanced portfolio of cash, equities, gold and bonds - something you can do yourself more cheaply than fancy funds.

I've long warned investors that active funds can incur high charges and duplicate assets you already hold. And if you hold many you overdiversify, which means you end up paying fees without decent portfolio performance. Your holdings exemplify all these problems.

Fees matter a lot for a long-term investor. Paying a percentage point more than you need to in fees means that, after 20 years, you'll lose over £20,000 on a £50,000 investment. So set the bar very high for buying a higher charging fund.

 

Gregg Crawford, senior financial planner, Informed Financial Planning

You have reviewed your current expenditure, which has given a good indication of what you are likely to spend throughout retirement, a starting point for anyone considering affordability in retirement. It's good that you only expect to be funding your and your wife's costs - assisting children financially can have a large impact on a retirement fund.

An area in need of review is you and your wife's inheritance tax (IHT) planning. Based on the values you have stated, you are in excess of the joint nil-rate band and although the family home allowance will start to increase this, I do not think that you will be able to avoid an ongoing IHT liability without some planning. There are many IHT solutions available that could potentially address the current and future liability, while maintaining your control over the investment assets and access to capital and income.

You are thinking about a more defensive stance for your Sipp and considering funds more suited to drawing an income, to meet your requirement in retirement. But from an IHT perspective it would currently seem illogical to draw income from the pension fund, as this falls outside your estate and will not attract IHT when you die.

If you use the pension for retirement income you will limit the spending of the assets which do form part of your estate. This escalates the problem as you are not spending your IHT liable assets.

 

James Norrington, specialist writer at Investors Chronicle, says:

Without a mortgage to worry about, the children off your hands and the option of a nice little side-earner doing consultancy work, you are in a position to be relaxed about staying invested. Given this relative security and your obvious competence, it is surprising you have such a high proportion of money still in cash.

You aren't alone in having reservations about central banks' loose monetary policy, and one negative impact you are definitely suffering from is negative real returns on cash. Even if you halved the size of the cash position, when the market next falls you would still have a decent cushion to ride out turbulence. If you don't feel comfortable doing this then consider reinvesting some of the cash in guaranteed return products. These target returns linked to an index such as the FTSE 100, but your capital is secured in exchange for giving up some of the potential profits.

Whatever you decide, the cash position means you already have capital protection and the diversification in your portfolios should also lessen the impact of stock market falls. Therefore, for your Sipp and other new funds, the focus should be on yield to meet as much of your target £20,000 annual income as possible.

Before you consolidate, ask your financial adviser if there are any tax implications in moving the inherited portfolio. In terms of the investments, your portfolio is good, and the inherited funds are also reasonably well diversified, so I'd be tempted to leave it for a while and think about which investments you want to keep.

 

HOW TO IMPROVE THE PORTFOLIO

Chris Dillow says:

Two of your funds - Artemis Strategic Assets (GB00B3VDD431) and CF Odey Opus (GB00B54RK123) - have high cash holdings just now. There's a case for this, but you already have a high weighting to cash. Why pay someone to do what you're doing yourself?

There's a case for active funds if they give you access to assets or strategies that are otherwise hard to get, or deliver great performance. In the past, Standard Life UK Smaller Companies Fund (GB00BBX46183) has done both. Some equity income funds that invest in defensive stocks might also do so. The case for defensive stocks is that they outperform over time on average, not that they protect you from a serious market downturn. And some investors might find Artemis Strategic Assets' bearishness on bonds attractive on this count.

But remember that what matters is your portfolio as a whole. The test of a fund is not whether it is a good investment in itself, but rather whether it gives you something worthwhile that you're not already getting. If you already have a reasonably balanced portfolio the answer's often no.

I'd therefore suggest you act upon your interest in global tracker funds. Imagine you held only a global tracker and cash. What other funds would you need? If you're really cautious, there might be a case for bonds or gold. Otherwise, the answer is very little. Consider, therefore, dumping your higher-charging active funds.

 

Greg Crawford says:

You've looked to limit the risk by using different sectors and collective investments which should limit any shocks in a market downturn. The portfolio, however, seems quite equity heavy, so it may be time to review your attitude to investment risk and determine if the asset allocation is still suitable. This may mean switching more assets into bonds and regularly rebalancing to maintain the asset allocation at more comfortable levels.

You hold a very large amount in cash, which is unlikely to be providing any real return. You should always have a safety cushion, however due to the impact of inflation your allocation to cash should be reviewed - ideally you should have three to six months' expenditure in cash.

Your investments should be considered against medium to long-term goals, and you should take on a greater element of risk with some of this large portfolio.

Your focus seems to be very much on your funds and the performance they achieve. You should rather be looking at the picture as a whole - establish goals and objectives, and then try to ensure that these can be met.

 

James Norrington says:

Your 30 years' investing experience can be seen in this thoughtfully constructed portfolio. Of your Isa investments, worth £82,065, roughly a third is in UK equities. It's not unreasonable, however, to have a bias to your home market, and the funds you have chosen give a good mix of exposure to companies of various sizes and in different industries.

Four UK funds is probably about the right amount, giving you the benefit of different managers' knowledge and styles. Taking the FTSE All-Share as the benchmark, some of these managed funds have underperformed over 12 months which some may see as an argument for passive funds.

In the past year, however, indices were pulled higher by a resources recovery and the Brexit vote bounce for US dollar earners. And looking back further your funds have also delivered decent periods of outperformance. Several large-cap stocks look very expensive at the moment and the skill of your managers in choosing different weightings to the market-cap-weighted index will ensure you benefit as value is realised in some of the other companies the funds hold. And, to some extent, you'll have protection if a fall in the price of the biggest companies drags down the index.

The rest of the portfolio is nicely diversified, with funds that invest in global equities giving an allocation of about a fifth to developed world ex-UK equities and the same amount to emerging market equities. You also have a good mix of sovereign and high-quality corporate bonds, and some of the funds can invest in other assets such as precious metals or derivatives to hedge some positions.

You clearly understand how to choose and implement a strategic asset allocation policy, and are realistic about the risks you are taking on. I also like that you recognise your home and holiday home already represent ample exposure to property.