Chapter 9 - Taxation, Investment Wrappers and Trusts

Taxation, ISAs, Pensions and Trusts

What is a Domicile?

• The country that a person treats as their permanent home, or lives in and has a substantial connection with.

• Every person must have a domicile; however, it is not possible at any time to have more than one domicile.

• However, certain individuals in the UK have held what was known as ‘nondomicile’ (non-dom) status which enables those individuals to pay lower taxes than if domiciled in the UK.

• However, following the 2024 Budget, the non-dom regime was abolished.

• However, the Chancellor has subsequently indicated that this decision has been reversed and the future of the regime remains uncertain at the time of writing (February 2025).

What are the 3 types of domiciles?

• Domicile of origin – the domicile that every person acquires at birth.

• Domicile of choice – this is acquired by a person residing in a country with the intention of continuing to do so permanently or indefinitely. In the UK, the status of ‘domicile’ was expected to be removed from 2025, but remains uncertain.

• Domicile of dependency – this arises in respect of children, married women and mentally disordered persons. Their domicile will generally be the same as, and will change (if at all) in accordance with, the domicile of the person on whom they are deemed to be legally dependent.

How does the concept of domicile apply to the law?

It is the link between a person and the legal system or rules that apply to matrimonial, legitimacy, succession and taxation issues. Domicile and its related concepts are important as they help to determine:

• Who has a right to inherit assets on death

• The form of any will or testamentary dispositions that are permitted

• Who inherits, for example, if there is no will, as some countries have very rigid rules on who can inherit, and

• How much IHT is payable and where.

What is residency?

• Definitions of residency vary from country to country.

• For individuals, physical residency is the most important factor, but other factors such as property ownership or the availability of accommodation can also be taken into account.

• The complexity of the rules surrounding residency means that individuals who are not resident in a country for a complete tax year need to exercise particular care in understanding the rules and ensuring that their visits do not exceed the maximum time permitted.

• In the UK, residents normally pay UK tax on all their income, whether it is from the UK or abroad.

What are the residency rules in the UK?

• Depends how many days they physically spend in the UK in the tax year (6 April to 5 April the following year). You are automatically resident if either:

  • You spent 183 or more days in the UK in the tax year, or

  • Your only home was in the UK – you must have owned, rented or lived in it for at least 91 days in total – and you spent at least 30 days there in the tax year.

• You are automatically non-resident if either:

  • You spent fewer than 16 days in the UK (or 46 days if you have not been classed as UK resident for the three previous tax years), or

  • You work abroad full time (averaging at least 35 hours a week) and spent fewer than 91 days in the UK, of which no more than 30 were spent working.

What happened to residency rules after the 2024 Budget?

The non-dom regime was abolished. In its place, the UK Chancellor announced it would remove tax status relating to domicile from 2025. However, this change in policy is now uncertain. A new residency-based scheme may still be introduced for those resident and entering the UK on a temporary basis, including a temporary repatriation relief for three years.

What is income tax?

• Individuals are liable to income tax on their earnings and any interest or dividends that arise.

• Income is classified into three types:

  • Non-savings income – this category includes earnings from employment and pension income.

  • Savings income – this includes interest from bank accounts and bonds.

  • Dividend income – the final category includes dividends payable by companies and investment funds.

Do private investors pay income tax?

• Yes, they are liable to pay tax on the income generated from their savings and investments.

• In this context, taxable income includes interest on bank deposits, the dividends payable on shares, income distributions paid by unit trusts and the interest on government stocks and corporate bonds.

• Income from savings and investments is added to the investor’s other income, such as salary or pension, and income tax is charged on the total amount after deducting the annual personal allowance (the personal allowance applies up to an earnings limit of £100,000, after which the personal allowance is reduced by £1 for each £2 of earnings higher than £100,000. The remaining income is grouped into bands and taxed at different rates.

What happened to income tax in the 2025 Budget?

• The freeze on the personal allowance until April 2028 will result in individuals facing more tax as their incomes rises.

• There are a number of other deductions that an individual is allowed to make from gross income before tax is payable; for example, subject to certain limitations, contributions made to a personal or corporate pension scheme and charitable donations made by individuals.

What income tax is free?

Premium Bond prizes, interest on national savings certificates, income from individual savings accounts (ISAs), gambling and National Lottery wins, compensation for loss of employment of up to £30,000 and statutory redundancy payments, and dividends on ordinary shares of a venture capital trust (VCT).

What is savings interest?

Interest income is referred to by HM Revenue & Customs (HMRC) as non-dividend savings income and is taxed after earned income. Non-dividend savings income applies to UK and overseas savings income from the following sources:

• Interest from banks and building societies.

• Interest from gilts and corporate bonds.

• Purchased life annuities (income component).

• The taxable amount on deep-discounted securities (eg, zero coupon bonds (ZCBs)).

• Some distributions from unit trusts.

Why was a personal savings allowance introduced in 2016?

To remove tax on up to £1,000 of savings income for basic rate taxpayers and up to £500 for higher rate taxpayers. Additional rate taxpayers do not receive an allowance.

What is Dividend Income?

The taxation of dividends changed significantly from April 2016 when a dividend allowance was introduced where a certain amount of dividend income is tax-exempt. The dividend allowance for 2024–25 and 2025–26 is £500, and sums above that amount are taxed at 8.75% for basic rate taxpayers, 33.75% for higher rate taxpayers and 39.35% for additional rate taxpayers.

What are National Insurance Contributions (NICs)?

• Build entitlement to certain UK social security benefits, including the state pension. The type and level of NICs paid depend on how much people earn and whether they are employed or self-employed.

• NICs cease in the year an individual reaches state pension age.

• Employers are responsible for calculating, deducting and paying Class 1 primary NICs (employees’ contributions) to HMRC on behalf of all their employees (including directors) earning above the earnings threshold; these must be deducted from their earnings.

• Employers also pay Class 1 secondary NICs (employers’ contributions) for all employees earning above the earnings threshold.

What are State Benefits?

• State benefits are a mechanism to redistribute income to people on lower wages and their main purpose is to help families on lower pay make ends meet.

• Although the criteria set out for who can claim benefits tends to change regularly, they will generally fall into the following categories:

  • If you are unemployed

  • If you are on a low income

  • If you are ill, disabled or injured

  • If you have dependants

  • If you are aged over 60

  • If you are pregnant, or have recently had a baby.

• Universal Credit (UC) and Jobseeker’s Allowance (JSA) are benefits available upon personal circumstances.

What is Universal Credit and Jobseeker’s Allowance?

Universal Credit is a benefit for working age people that replaced six different benefits –

• Income Support; income-based Jobseeker’s Allowance (JSA);

• Income-related Employment and Support Allowance (ESA);

• Housing Benefit;

• Child Tax Credit;

• Working Tax Credit.

  • If eligible, a single Universal Credit payment is made monthly in England and Wales with a fortnightly option in Scotland and Northern Ireland. A new style ‘Jobseeker’s Allowance (JSA)’ can still be applied for.

What is Capital Gains Tax (CGT)?

• A tax levied on an increase in the capital value of an asset; you normally only pay CGT when the asset is disposed of.

• For example, if an individual bought shares for £2,000 and later sold them for £17,000, then that individual has made a capital gain of £15,000.

• CGT may be payable when an asset is sold or disposed of which includes when you:

  • Sell, give away, exchange, or transfer – ‘dispose of’ – all or part of an asset

  • Receive a capital sum, such as an insurance pay-out for a damaged asset.

What assets are liable to CGT?

• Shares

• Unit trusts

• Certain bonds

• Property (except your main home, or principal private residence)

What assets are exempt from CGT?

• Although property is chargeable to CGT, any gain on the sale of your main home is exempt.

• For CGT purposes, your main home is referred to as your ‘principal private residence’.

• Your car, and other personal possessions worth up to £6,000 each, such as jewellery or paintings.

• Gains on gilts and certain other sterling bonds, called ‘qualifying corporate bonds’.

• Gains on assets held in accounts that benefit from tax exemptions, such as an ISA, Junior ISA (JISA) or approved pension.

• Betting, lottery or pools winnings.

• Transfers between spouses.

What is the annual exemption amount (AEA)?

• Annual tax-free allowance which allows individuals to make a certain amount of gains tax-free each year.

• Following the 2025 Budget, any net gains in excess are chargeable as follows:

  • £3,000 AEA for 2024–25 and 2025–26; this is the tax-free amount before any CGT applies on qualifying disposals.

  • The CGT rates for individuals will increase from 10% to 14% for qualifying disposals made on or after 6 April 2025.

  • The individual rates will increase again from 14% to 18% for qualifying disposals made on or after 6 April 2026.

  • 18% and 24% for gains on the sale of residential properties.

  • 24% for trustees or personal representatives (from 20% previously).

  • 10% for gains qualifying for business asset disposal relief (BADR), rising to 14% in 2025 and 18% in 2026–27.

  • 32% for carried interest received until at least 2026

What is inheritance tax (IHT)?

• Usually paid on the estate that someone leaves when they die. It is also sometimes payable on trusts or gifts made during someone’s lifetime.

• IHT is based on the value of assets that are transferred during the individual’s lifetime or that are remaining at death, known as the estate of the deceased.

• Each individual has a nil-rate band (NRB) which is currently set at £325,000; and any transfers in excess of the NRB are then charged at 40%.

• The residence nil-rate band (RNRB) was introduced in April 2017 and is in addition to the NRB. To be eligible, an individual must pass their home or a share of it to their children or grandchildren – this includes stepchildren, adopted children and foster children, but not nieces, nephews or siblings.

Following the 2024 Budget, what were the latest changes to IHT?

• IHT thresholds have been frozen until 2030.

• The RNRB raises the total nil-rate band to £500,000 if the estate includes a residence passed to direct descendants.

• The total nil-rate band rises up to £1 million where a tax-free allowance is passed on to a surviving spouse or civil partner.

• Inherited pensions will now be brought into the calculable estate, for IHT, from 2027.

• Changed rules for inheritance related to farming were introduced including Agricultural Property Relief (APR) and subequently what property then falls under IHT. Properties more than £1 million will face a reduced APR rate of 50% from April 2026

What is exempt from IHT?

• Assets left to the deceased person’s spouse

• Assets left to registered charities

• Gifts made more than seven years before death can be exempt if certain conditions are met.

What could you do after Oct 2007 to unused NRB?

It has been possible to transfer any unused NRB from a late spouse or civil partner to the second spouse or civil partner when they die. The percentage that is unused on the first death can then be used to reduce the IHT liability on the second death and can increase the IHT threshold of the second partner.

The Finance Act 2012 introduced a reduction in the rate of IHT from 40% to 36% where 10% or more of a deceased person’s net estate (after deducting IHT exemptions, reliefs and the NRB) is left to charity. The measure applies to deaths on or after 6 April 2012.

What is stamp duty?

• A tax paid on UK share trades when a stock transfer form is used.

• Stamp duty reserve tax (SDRT) is payable when an individual buys shares electronically and no stock transfer form is used.

• The rate is 0.5% of the purchase price and is paid only by the purchaser.

• There is no stamp duty payable on the purchase of most foreign shares, bonds, open-ended investment companies (OEICs), unit trusts and exchange-traded funds (ETFs).

What rate is stamp duty?

• Stamp duty land tax (SDLT) is payable by the purchaser on purchases of land and property in the UK.

• For most residential property, the amount due is a percentage of the purchase price. Since 1 April 2016, individuals pay 3% on top of the normal SDLT rates if buying a new residential property means that they own more than one property.

• The 2024 Budget increased this additional rate by a further 2%, up to 5%, on top of the normal SDLT rates.

• In addition to the above, the 2020 Budget saw the introduction of a new SDLT surcharge of 2% for non-UK resident buyers of property.

• SDLT rates are also scheduled to change from 31 March 2025 when the temporary increases to the thresholds that were put in place in September 2022 are due to come to an end

What is value added tax (VAT)?

• Chargeable by firms and individuals whose turnover exceeds a certain amount, when they supply what are known as taxable goods or services.

• Although this affects all firms except those below the VAT threshold, they are allowed to deduct tax they have paid on purchases, so reducing their liability.

• The standard rate of VAT is 20% and is relevant to a number of investment services.

• For example, fees charged for providing an investment management service to an authorised unit trust (AUT) would be VAT-exempt, while those charged to clients (eg, private individuals) would be VATable.

• There are also exceptions when no VAT is payable, such as with broker’s commission for the execution of a stock market trade.

What is Corporation Tax (CT)?

• Paid by limited companies and other bodies (including clubs and associations) on their profits and gains.

• It is not paid by individuals in business as sole traders (ie, the self-employed), as they are taxed on their earnings as income.

• CT is charged for accounting periods. These are usually for one year, apart from in the year that the company starts and ceases, and if there is a change of accounting date.

• If this spans a change in rate, the period must be apportioned between the periods for each rate

Is CT pro rata with profit?

• The tax is charged on the adjusted profit. This is the figure shown in the accounts as net profit before tax and dividends.

• To this, various adjustments are made to bring the figure into line with tax law. In the UK, the prevailing corporation tax rate is set at 25%.

• The prevailing rate depends on the company’s profit level, with lower rates and marginal relief available for companies with smaller profits.

What is an individual savings account (ISA)?

• Set up by the government to encourage individual investment.

• They were introduced in 1999 and have since been the main vehicle for saving and investing tax efficiently. The particular incentive for investment is that the investments held within an ISA are free of income tax and CGT.

• An ISA itself is often referred to as an investment wrapper because it is essentially an account that holds other savings and investments, such as deposits, shares, OEICs and unit trusts, and allows them to be invested in a tax-efficient manner.

• The ISA acts as a wrapper, shielding the return on savings and investments held in it from tax. Firms offering investments in ISAs, such as banks, building societies and fund management companies, must be approved by HM Revenue & Customs (HMRC).

• The approved entity is known as the ISA manager. HMRC is also responsible for setting the detailed rules applicable to ISAs

Who is eligible for an ISA?

• To be able to apply for an ISA, an investor must be able to meet eligibility rules on age (as in the table above) and residence.

• The investor must be either of the following:

  • A UK resident for tax purposes, or a non-resident UK Crown servant (or their spouse/civil partner), subject to UK income tax on their overseas earnings.

  • If an ISA holder ceases to be resident in the UK, they can keep the ISA and retain the tax benefits, but cannot pay in any further money.

    • ISAs cannot be assigned, put into trust or arranged on a joint basis. Investments must be made with the investor’s own cash.

What is subscription to an ISA?

• Subscription limits are set annually and are usually increased by the rate of inflation unless the Chancellor announces a different rate at the budget.

• For the 2024–25 tax year, the ISA subscription limit is set at £20,000. At the time of writing, the limits are expected to be frozen until 2030 but may be subject to future change.

• However, no changes were announced in the 2024 or 2025 Budgets.

• This means that:

  • The whole allowance can be invested in a cash ISA or a stocks and shares ISA, or an innovative finance ISA or any combination of these.

  • Up to £4,000 of the annual subscription limit can be subscribed to a lifetime individual savings account (LISA).

How can pensions help plan retirement?

• Pensions are becoming increasingly important as people live longer, and commentators speak of a ‘pensions time bomb’, when the pension provided by the state, the individuals and their employers will be inadequate to meet needs in retirement.

• When the state pension was introduced in the UK, the initial need was funding for the rare event of people living beyond the age of 65.

• Today this is very common.

• As an example, 19% of people in the UK were aged 65 or over in 2022. It is predicted that by 2072 over 27% of the people in the UK will be over 65.

What is a pension?

An investment fund where contributions are made, usually during the individual’s working life, to provide a lump sum on retirement plus an annual pension payable thereafter. Pension contributions are tax-effective, as tax relief is given on contributions.

What are the tax incentives of pensions?

• Tax relief on contributions made by individuals and employers.

• Pension funds are not subject to income tax and CGT and so the pension fund can grow tax-free.

• The ability to take a pension from age 55 (it is due to increase to 57 from 2028).

• An option to take a tax-free lump sum at retirement.

• The option to include death benefits as part of the scheme.

How are state pensions collected?

• State pensions are provided out of current NICs, with no investment for future needs.

• This is a problem as the dependency ratios – the potential support ratio which is the proportion of working people to retired people – is forecast to fall from 4:1 in 2002 to 3:1 by 2030 and to 2.5:1 by 2050.

• This means that by 2050 either each worker will have to support almost twice as many retired people, or the support per head will need to fall substantially, or some combination of these changes.

What changes were made to the pension scheme?

• The age at which the state pension is payable has been rising and is currently 66 for both men and women.

  • Between May 2026 and March 2028, the age at which you can claim the state pension will increase to 67 for those born after April 1960.

  • From 2044, the age is expected to increase further to 68.

• The state pension used to be in two parts – a basic state pension and an additional state pension, or state second pension (S2P).

  • This has been replaced by a flat rate pension, although the amount payable will depend on whether the individual has made sufficient NICs during their working life

What are occupational pension schemes?

Run by companies for their employees. In an occupational pension scheme, the employer makes pension contributions on behalf of its workers.

What are the benefits of an occupational pension scheme?

• Employers must contribute to the fund (some pension schemes do not involve any contributions from the employee – these are called non-contributory schemes).

• Running costs are often lower than for personal schemes and the costs are often met by the employer.

• The employer must ensure the fund is well run, and for defined benefit schemes must make up any shortfall in funding

What is a ‘final salary scheme’?

• The occupational pension scheme could take the form of a defined benefit scheme, also known as a ‘final salary scheme’, when the pension received is related to the number of years of service and the individual’s final salary.

• For example, an occupational pension scheme might provide an employee with 1/60th of their final salary for every year of service; the employee could then retire with an annual pension the size of which was related to the number of years’ service.

• Employers have generally stopped providing defined benefit schemes to new employees because of rising life expectancies and volatile investment returns, and the implications these factors have on the funding requirement for defined benefit schemes.

What are defined contribution basis pension schemes?

• The size of the pension fund is driven by the contributions paid and the investment performance of the fund.

• Under this type of scheme, an investment fund is built up and the amount of pension that will be received at retirement will be determined by the value of the fund and the amount of pension it can generate.

• The higher cost of providing a defined benefit scheme is part of the reason why many companies have closed their defined benefit schemes to new joiners and make only defined contribution schemes available to staff.

• A key advantage of defined contribution schemes for employers over defined benefit schemes is that poor investment performance is not the employer’s problem; it is the employee who will end up with a smaller pension pot.

How are occupational pension schemes structured?

As trusts, with the investment portfolio managed by professional asset managers. The asset managers are appointed by, and report to, the trustees of the scheme. The trustees will typically include representatives from the company (eg, company directors) as well as employee representatives.

What are private or personal pensions?

• Individual pension plans.

• Defined contribution schemes that might be used by employees of companies that do not run their own scheme or when employees opt out of the company scheme; or they might be used in addition to an existing pension scheme; and they are also used by the self-employed

Do employers organise private pensions?

Many employers actually organise group personal pension schemes for their employees, by arranging the administration of these schemes with an insurance company or an asset management firm. Such employers may also contribute to the personal pension schemes of their employees.

What if an individual does not have access to occupational schemes or employer-arranged personal pensions?

• They have to organise their own personal pension schemes.

• These will often be arranged through an insurance company or an asset manager, where the individual can choose from the variety of investment funds offered.

• Individuals also have the option to run a self-invested personal pension (SIPP), commonly administered by a stockbroker or IFA on their behalf.

• In a SIPP, it is the individual who decides which investments are included in the scheme, subject to HMRC guidelines.

• The schemes are approved by HMRC, which means that they are tax-exempt. The contributions are tax deductible and there is no tax either on investment income or capital gains.

Who is responsible for a private scheme?

The key responsibility that lies with the individual is that the individual chooses the investment fund in a scheme administered by an insurance company or asset manager, or the actual investments in a SIPP. It is then up to the individual to monitor the performance of their investments and assess whether it will be sufficient for their retirement needs.

What are pension freedoms?

In April 2015, the tax rules were changed and the advent of ‘pension freedoms’ gave people greater access to their pensions. Members of defined contribution schemes can now access their pension pot in different ways. People are no longer required to buy an annuity, although this option may still be the best route for many. Instead, it is now possible for an individual to take their entire pension as a lump sum at retirement age; although, if they choose to do this, only 25% will be tax free; tax will need to be paid on the remaining 75%. Alternatively, they can select to take an adjustable income (drawdown), take cash out in lump sums or a combination of the options.

What was the FCA’s ‘Retirement Outcome Review’?

Found that around 33% of those who did not seek financial advice before deciding on how to access their pension were holding cash thus limiting their pension pot’s ability to earn a return. At the time, this concerned the FCA as the review stated that over a twenty-year period, someone who wished to draw from their pension pot could increase their expected annual income by as much as 37% if they invested in a range of assets as opposed to holding cash. It was clear that there was insufficient engagement with deciding how to invest funds that moved into drawdown and, as a result, the FCA intervened by introducing drawdown investment pathways in 2021.

What are investment pathwys?

Drawdown investment pathways, essentially retirement income choices, are off-the-shelf investment products designed for those who wish to draw on their pension without paying for financial advice on how the rest of the pension pot is invested. The four pathways are shown below:

• Investment pathway 1: I have no plan to touch my money in the next five years. The associated investment strategy will aim for long-term, risk-controlled growth through a broad range of assets.

• Investment pathway 2: I plan to use my money to set up a guaranteed income (annuity) within the next five years. The strategy here aims to preserve the annuity purchasing power of the pension pot.

• Investment pathway 3: I plan to start taking my money as long-term income in the next five years. This strategy aims for capital growth with a long-term income target.

• Investment pathway 4: I plan to take out all my money in the next five years. Capital preservation is the main aim here.

The main advantage of selecting one of the pathways above is that they are ready-made, quick to arrange and they do not require financial advice. On the other hand, the biggest drawback is the fact that these options are not tailored to the personal circumstances of the individual and do not take other financial circumstances into account.

What is a trust?

• The legal means by which one person gives property to another person to look after on behalf of yet another individual or a set of individuals.

• Starting with the individuals involved, the person who creates the trust is known as the settlor.

• The person they give the property to, to look after on behalf of others, is called the trustee.

• The individuals for whom it is intended are known as the beneficiaries.

How are trusts used?

Trusts are widely used in estate and tax planning for high net worth individuals and are encountered throughout retail investment firms from execution-only stockbrokers to private banks.

Some of their main uses include:

• Providing funds for a specific purpose, such as the maintenance of young children

• Setting aside funds for disabled or incapacitated children in order to protect and provide for their financial maintenance

• To reduce future inheritance tax liabilities by transferring assets into a trust and so out of the settlor’s ownership

• Separating out rights to income and capital so that, for example, the spouse of a second marriage receives the income from an asset during their life and the capital passes on that person’s death to the settlor’s children.

  • Trusts are also the underlying structure for many major investment vehicles, such as pension funds, charities and unit trusts.

What are the types of trusts?

• Bare or absolute trusts – in which a trustee holds assets for one or more persons absolutely.

• Interest in possession trusts – in which a beneficiary has a right to the income of the trust during their life and the capital passes to others on their death. These include life interest trusts.

• Discretionary trusts – in which the trustees have discretion over to whom the capital and income is paid, within certain criteria.