Venture capital trusts are the vehicle of choice for those who've maxed out their pensions.
Venture-capital trusts (VCTs) raised £728m from investors during the 2017-18 financial year, the largest sum on record (considering only years in which the tax reliefs on offer have been comparable). The figure, up 34% on 2016-17, confirms speculation that VCTs are becoming popular with pension savers who have been hit by lower pension contribution limits.
The rationale for switching to VCTs once you've run out of pension allowance is clear: the funds offer 30% upfront tax relief on investments in new shares, as well as tax-free income and capital gains. However, if you are now building a portfolio of VCTs for retirement-planning purposes, you need to manage your investments carefully.
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Maximising the benefits
One important consideration is dividends. While income distributions from VCTs are tax-free, long-term investors focused on retirement planning will almost certainly want to reinvest their dividends. In that case, you must make sure that your VCTs offer a reinvestment facility. Also, check how this facility is set up if the trust is issuing new shares for savers investing in this way, you'll benefit from 30% upfront tax relief on each re-investment.
At the same time, keep the five-year rule in mind: you must maintain your VCT holdings for at least five years or repay your upfront tax relief. Five years after you first invest, it may make sense to cash in your investment and move it to a new VCT, so as to grab another slice of tax relief. But it will be more complicated to do so if you've been reinvesting your dividends in new shares.
Diversification is vital
There are also basic portfolio-planning challenges to consider. For example, as you increase your VCT holdings, aim to diversify the exposure you have in the fund's underlying portfolios. For example, some VCTs invest mostly in Aim shares, while others are purely unquoted. Some are sector specific investing in renewable energy or healthcare, say while others are more general. Don't forget to look at your exposure in the context of non-VCT investments for instance, you may want to cut back on smaller companies in other areas of your portfolio.
Finally, stay on top of your timescales. With conventional pensions, it is usually possible to move into less risky assets as you approach retirement and begin to think about drawdown. This will be harder to do within a VCT, so you will either need to adjust your strategy elsewhere in your portfolio, or consider moving out of VCTs into other assets.
Keep an eye on your VCT performance
As with any investment, savers in venture-capital trusts (VCTs) need to keep a close eye on the performance of their funds. It's true that some VCTs have delivered stellar returns over the past decade, almost trebling investors' money at funds such as Artemis VCT and Oxford Technology, according to data from the Association of Investment Companies. Yet others have been much less impressive.
VCT performance figures strip out the impact of tax relief, but this is useful, since it gives you an opportunity to compare what funds are actually delivering both against one another and versus other types of investment.
However, keep in mind that changing VCT holdings in the event of sub-standard performance may not be straightforward. For one thing, if you sell your shares less than five years after investing, you'll have to repay the upfront tax relief you received.
Also, keep in mind that the secondary market for VCT shares is limited (the 30% income-tax relief on VCT shares is only available on new shares, which makes them less appealing to purchase second-hand) and this is likely to be even more pronounced for the poor performers. This is one reason why some investors prefer VCTs that offer an automatic exit mechanism for example, a guaranteed wind-up date when your money will be repaid.
Millions miss out on government pension top-up
Up to 2.6 million low-earning savers in "master trust" schemes, a common set-up used by thousands of employers to provide staff pensions, may not be getting the tax relief they are owed, according to figures from actuarial firm Hymans Robertson.
The problem affects workers earning between £10,000 and £11,850 a year, respectively the level above which they are automatically enrolled into the company pension scheme, and the level above which they begin paying income tax.
Such workers are entitled to contribute up to £3,600 a year into their pension, but £720 of this is supposed to come from the government in the form of tax relief.
However, this relief is not paid automatically and must be claimed by the scheme on the member's behalf. Yet just three of the 17 largest master-trust providers, including Nest, the market leader, have set up processes for this to happen, suggests Hymans Robertson's research. Savers in schemes run by the remaining 14 providers thought to total 2.6 million people are therefore missing out on tax relief.
Pension regulators say that the problem is a matter for employers contracting with master-trust providers, rather than an issue on which official intervention is required. In some instances, employers are believed to have insisted on their providers paying the reliefs owed to members. In most cases, however, savers are simply missing out on a top-up to their funds.
Tax tip of the week
Unless your pension provider has an up-to-date tax code for you, it is obliged to impose an "emergency rate" of tax on any withdrawals of more than £987.50, says The Sunday Times. This is a 12th of the current personal allowance of £11,850 the amount you can withdraw without having to pay income tax as it is assumed you will make the same withdrawal every month. So if you make a withdrawal of £10,000, although this should be tax-free (assuming you have no other income), you could have to pay more than £3,000 in tax, according to broker AJ Bell. The problem is most acute at the start of the tax year, because it will take 12 months to receive an automatic refund. To get your money back within 30 days, you need to fill in one of three forms P55, P50Z or P53Z depending on your circumstances.
