I want to maximise my children's wealth

“I have no pension other than my self-invested personal pension (Sipp), and no other income,” says Stanley. “But my outgoings are relatively modest. About 85 per cent of my Sipp has been crystallised, from which I will take income, but hopefully not more than the personal allowance [£12,500 for the 2019-20 tax year]. I will also draw money from the investments held outside my Sipp as that will be a good way to pass on assets to my children.

"I will not crystallise the remaining 15 per cent until I am age 75, at which point I will pay the pensions lifetime allowance charge.

“I want to maximise my own and my children’s wealth, and pass as much as I can to them. I have made inheritance tax (IHT)-free gifts to my children and, when I was employed, normal expenditure out of income transfers. At age 75, or before if my health declines, I will transfer more assets to my children or increase my allocation to [potentially] IHT-free assets such as companies quoted on the Alternative Investment Market (Aim).

"I expect my children to have substantial student loans so will help them make the repayments. If it looks as though they will have to pay off the debts in their entirety, because of the high interest rate, I may help them to pay off their student loans early.

"I use my full annual individual savings account (Isa) allowance every year. I have not drawn from my Isa yet, and may only do this to cover a large expense such as buying a second property. I intend to move house within the next four years and may sell my current home. Or, if I get planning permission, I will extend my home and then sell it or let it. If I don’t sell my home I will buy a second property costing between £300,000 and £500,000.

“I would like to make a total return of between 1.5 per cent and 5 per cent a year with my Sipp investments. And I would like to make a 5 per cent total return a year with the equity investments outside my Sipp, and 1 per cent to 2 per cent a year return with the other assets.

"I take a high-risk approach with the equity investments outside my Sipp because I hold cash alongside them, reducing the overall risk of this segment. I could tolerate a loss on these of up to 20 per cent before selling them, although I would try to secure some of these assets’ value before they fell that much by selling part of them.

"I aim for the investments in my Sipp to have a medium risk profile. I would liquidate these if they lost 10 per cent or more in value and seemed likely to continue falling. I would then aim to re-enter the market over a few months as it recovers, although would feel under pressure to reinvest sooner because the broker I use doesn’t pay interest on cash holdings.

"Most of my Sipp holdings are investment trusts, which I find easy to trade. Every week I look at how they are performing, and sell some or all of my holdings in trusts that are not performing well. I reinvest the proceeds in the ones that are performing better. I have recently sold Mercantile Investment Trust (MRC) and added to my holdings in BlackRock Throgmorton Trust (THRG) and Monks Investment Trust (MNKS). I add new investment trust holdings every year or two.

"I aim to keep about 10 per cent of the Sipp in gold to partially hedge against a stock market fall. But I am concerned that I am still too exposed to equities.

"I think my Sipp investments are well diversified, so the assets outside it can be allocated to fewer holdings, with larger allocations to each one. 

"I have about £150,000 invested in Enterprise Investment Schemes (EIS), Seed EISs (SEIS) and venture capital trusts (VCTs). I used the VCTs to mitigate income tax, but will now sell these as soon as I can – unless they have maintained value and are paying good dividends. I will hold on to the EIS and SEIS investments until they are bought out or do an initial public offering."

Stanley's investment portfolio

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

THE BIG PICTURE

Chris Dillow, Investors Chronicle's economist, says:

You are concerned that you are too exposed to equities. The fact that you are concerned alone means you are, because the point of having money is to give you peace of mind. If you’re worrying, your portfolio is not right for you.

But a number of things should mitigate your concerns. You have substantial wealth but modest outgoings, so a fall in your assets' prices would not result in uncomfortable changes to your lifestyle. And you are effectively pooling risk with your children – less wealth means a smaller bequest for them.

Your gold exchange traded commodity and bond fund provide some diversification. But although these would protect you from market falls caused by fears of recession, they would probably do badly if investors start worrying that interest rates will rise. And if investors fear that higher interest rates won’t be compensated for by better growth, equities could suffer too. As US markets are pricing in big rate cuts this should be a concern.

You have some protection from your cash. But hold this asset outside broker accounts and Sipps because their interest rates for cash are poor or non-existent.

But I’m not sure that you should be in a rush to top up such holdings. The above-average dividend yield on UK stocks and large volumes of foreign selling of US equities recently are good lead indicators of decent returns. And US stocks are reasonably valued, as long as the economy continues to deliver non-inflationary growth.

This will change at some point, so an important thing to watch is prices relative to their 10-month or 200-day moving average. Selling the market when it falls below this average has in the past saved investors from the worst of bear markets, albeit at the price of missing out on some recoveries. So keep an eye on this.

You could use Aim stocks to reduce IHT, but this is risky. If two identical assets offer the same returns and the government decides to tax one, people will sell the taxed asset and buy the untaxed one. This will raise the price of the untaxed asset to a level from which future returns will be low. Eventually, both assets will offer the same post-tax return.

You don’t get something for nothing. Other things being equal, tax-free returns mean low pre-tax returns. This is one reason why Aim stocks have underperformed main-market shares.

Wayne Berry, director of investment management at Brewin Dolphin, says:

You have made huge strides towards building up retirement funds via a large Sipp and other investments. I would continue to use your full annual Isa allowance, as this wrapper can provide tax-efficient income. And fully using your Isa allowance is essential if you want to leave your Sipp relatively untouched to mitigate your heirs' IHT liability. But as you have no secure source of income in retirement a lower-risk investment strategy could be more appropriate.

Your allocation to cash and NS&I Premium Bonds is relatively high, but this is less of a concern as most of your investments are equities, which are high risk, and you hold EISs, SEISs and VCTs [which are very high risk]. I would be nervous adding to fixed income just now, so suggest keeping your allocation to cash at the current level in the immediate future, but reassessing it periodically – especially if gilt yields rise in the next few years. Although interest rates are currently low, the cash allocation balances your exposure to equities, property and gold.

Lauren Peters, chartered financial planner at Fiducia Wealth Management, says:

Your children’s student loans are likely to amount to at least £150,000 in total.

The children that started their courses after September 2012 will pay back their loans via Repayment Plan 2. This has a tiered interest rate whereby graduates pay interest at retail price index (RPI) inflation, which is currently 3.3 per cent, until they are earning £46,305 when the rate is RPI plus 3 per cent. For earnings between £25,725 and £46,305 there is a staggered interest rate. So some graduates will pay back significantly more than they borrowed.

I wouldn’t worry too much about your children until they are on salaries of £46,305, as they will only be paying inflationary interest on their loans. But if they start to earn that much or more it would make sense to consider paying off their loans early.

You have crystallised 85 per cent of your pension value, which means it was probably well above the pensions lifetime allowance when you took your tax-free pension commencement lump sum. Check if you qualify for Fixed Protection 2016, which would give you a lifetime allowance of £1.25m. Other protections include Individual Protection 2016, which gives you a personalised lifetime allowance between the standard lifetime allowance [which is currently £1,055,000] and £1.25m, Fixed Protection 2014 and Individual Protection 2014.

Tax is due on excess funds above your lifetime allowance at a rate of 55 per cent if you draw it as cash or 25 per cent if you designate the funds as drawdown to be used later. When you eventually draw it as income it is subject to tax again at your marginal tax rate. So, if possible, organise your affairs so that you are a non-taxpayer when you draw down the excess above your lifetime allowance, meaning that you will only pay 25 per cent tax.

You could make use of the small pots rule, whereby you can get another three pots of £10,000 out without affecting your lifetime allowance, although it’s a bit of a faff to set up three pensions at just £10,000 each to circumvent the excess lifetime allowance charge.

You have not said what you invested your tax-free cash in. Often, it is tax efficient to leave the tax-free cash within a pension until you need it. And a pension held in trust keeps the assets within it outside your estate for IHT purposes, whereas tax-free cash outside this can add to your heirs' IHT liability.

As a single person, you only have one nil-rate IHT band of £325,000, plus the residence nil-rate band, which is currently £150,000, if you pass property to children or grandchildren. Your non-pension assets take you significantly over these allowances.

Your EIS investments should qualify for business property relief (BPR) once you have held them for at least two years, keeping them out of your estate for IHT purposes. You don’t get this relief with VCTs, although these tend to be easier to buy and sell than EIS investments. A review of whether these investments are still appropriate for you is advisable.

The gifts out of regular expenditure rule allows you to pass money to children over time, without it falling into your estate. Under this rule you can gift as much as you like to children as long as it comes out of your income and does not affect your standard of living. The payments have to be regular, for example, every six or 12 months. But make sure you have enough money to live on before you start gifting it away. As you are only 61, you could live for another 30 years or more, and you are already in de-cumulation, living off existing assets, rather than building up assets via a salary.

You have a substantial allocation to cash. If you don't spend a lot of money on property, consider investing some of this.

Your return targets for your assets are reasonable, but your approach to investing seems undisciplined. You liquidate Sipp investments if they lose 10 per cent in value and you think that they will continue to fall. How do you measure whether the falling trend is likely to continue? What kind of research do you carry out? Consulting with a wealth management firm to benefit from their expertise, regular macro-economic research and quantitative analysis systems.

You do not say how much money you need to draw from your Sipp on a regular basis. If it is a relatively small amount, as you have large cash reserves you are likely to be able to tolerate investment losses of 10 per cent or more over the short to medium term – as long as you have the stomach for it.

And attempting to time exits and re-entries to the market rarely works over the long term. You could end up horrendously mis-timing your transactions by selling assets before they recover and buying new ones that then start their own decline. So you could end up much worse off than if you had done nothing at all.

HOW TO IMPROVE THE PORTFOLIO

Chris Dillow says:

You are overdiversified, so are holding what is in effect a tracker fund, but at a greater cost. As you add stocks the contribution to portfolio risk of any individual stock’s volatility declines. But the contribution of their correlations increases. When you hold many stocks it is not a problem if one falls a lot because it only accounts for a small portion of your portfolio and the loss is only a small portion of your wealth. But there is a danger that all stocks will fall together – market risk.

Consider relative performance. If, for example, Netflix (NFLX:NSQ) underperforms the market, Chevron (CVX:NYQ) might also – at the same time. So it’s likely that correlations of relative performance are around zero. And with most stocks being such a small fraction of your portfolio that they add little to your wealth, even if they do beat the market it follows that your chances of beating the market by much are small. This isn’t necessarily a problem – I like cheap trackers – but be aware that is what you’ve got and at a high price.

There is a case for VCTs, EISs and SEISs because venture capital and private equity give us exposure to the likelihood that future growth will come from unlisted companies.

Wayne Berry says:

You have a medium attitude to risk with your Sipp investments. For a typical, moderate risk investor we suggest the following asset allocation:

You have many holdings, so it would be appropriate to trim the number of them. Excluding the cash, NS&I Premium Bonds, your home, VCTs, EISs and SEISs, you have 86 investments. This is too many to monitor on your own. And the investment sizes appear imbalanced. I would suggest a core and satellite approach, whereby active and or passive funds, which you hold for the long term, account for a larger portion of your investments. Alongside these you could hold some direct shareholdings to add or reduce exposure as appropriate.

Consider adding to infrastructure, despite the potential political risks of this area, as we will always need this. This asset can offer an attractive income and, in most cases, inflation-linked returns. This area has been volatile because investor sentiment on it was hit after UK opposition politicians said they would nationalise some of this in late 2017 and Carillion, which provided services to some of the projects infrastructure funds invest in, collapsed in early 2018. A good way to add exposure to this area would be HICL Infrastructure (HICL) or Legg Mason IF RARE Global Infrastructure Income Fund (GB00BZ01WV25), both of which have attractive yields.