The building blocks of financial planning

Financial planning is sometimes viewed as convoluted, with its complicated rules and ever-changing legislation and tax rates. There are, however, some simple steps that most individuals can take to organise their financial affairs more efficiently, as well as ’future-proofing’ against legislative and fiscal changes.

Matt Hawkins, financial planner

(This financial planning update is also available as a downloadable pdf.)

Financial planning is sometimes viewed as convoluted, with its complicated rules and ever-changing legislation and tax rates. There are, however, some simple steps that most individuals can take to organise their financial affairs more efficiently, as well as ’future-proofing’ against legislative and fiscal changes.

Making use of the available tax planning vehicles and associated financial exemptions and allowances should form the first steps in sensible financial planning. Filling these ‘pots’ provides a range of means to reduce both ongoing and future taxation, as well as generating future capital growth and income in the most efficient way.

This edition of our Newsletter seeks to familiarise readers with some of the more established savings methods and looks at some examples of the available tax allowances as well as recent changes that may impact on individuals.

Individual Saving Accounts (ISAs)

ISAs remain highly attractive providing tax-free income and capital gains. They offer simplicity, and the convenience where funds may be needed before pensions can be drawn, or used as an 'emergency' fund.

While the benefits of ISAs are largely understood by most, the government continues to add further features to improve their flexibility and use.  This may serve to make a very simple product less effective.  Over the past few years, the range of investments that can be held in an ISA has widened significantly, including more recently peer-to-peer lending. In addition, a surviving spouse can now ‘inherit’ a deceased spouse’s ISA value at death. Finally, flexible ISA money can now be withdrawn from and repaid into an ISA within the same tax year.

The current year’s ISA allowance is £15,240 and will rise to £20,000 from 2017/18 enabling a couple to shelter up to £40,000 annually into highly efficient, readily available funds.

Lifetime ISA (LISA)

The Lifetime ISA (LISA) is the newest arrival to the ISA tax planning family and when introduced from 2017, may be seen as a first step into a new form of long-term savings regime. It may also be a means for the Chancellor to introduce, through a form of Trojan Horse, his favoured method for accumulating retirement funds.  Positioned as a cross between pensions and ISAs, it is initially aimed at the younger generation who no longer have to choose between saving for their first home (up to £450,000 in value) or their retirement. The LISA in theory allows them to do both.

Available to the under 40s the new LISA will include a 25% government top-up at the end of each tax year, so the maximum  £4,000 annual contribution would be topped up to £5,000.

Savers will stop receiving their top-up once they reach age 50. Contributions will count towards the total ISA savings limit, so a further £15,000 can be contributed to a regular ISA where the LISA allowance is fully funded.

Funds will be accessible tax free from a LISA after the age of 60, or where withdrawn earlier for a deposit on a first home. Withdrawals can be taken at other times, but savers will lose the government top-up, the growth on it, as well as paying a 5% penalty. For these reasons a LISA may be less appropriate than a regular ISA vehicle if it isn’t for retirement or a first home.

Care should be taken in how retirement savings are made, especially where higher-rate tax relief may be available on pensions, employer contributions are on offer such as through auto-enrolment, or the funds are likely to be accessed prior to retirement.

Capital Gains Tax changes

Investors who own collective funds or shares will benefit from a capital gains tax (CGT) reduction with effect from 6 April 2016. This should provide significant savings and opportunities for those looking to sell assets or realign their portfolios where they may have been previously constrained. For those with an ‘income’ requirement use of the CGT allowance can be a tax efficient way of meeting expenditure. The new tax rates are:

  • 10% where an individual is not a higher-rate tax payer
  • 20% where the investor is a higher-rate taxpayer, or the gain takes them into the higher-rate band.

Trustees and legal personal representatives will also benefit as the tax rate on trust and estate gains falls to 20%. The CGT exemption remains at £11,100 for the tax year 2016/17.

 In an effort to retain control of the housing market, landlords or second property owners will not benefit from the reduction and will continue to pay 18% tax at the basic level, or 28% at the higher rate on any capital gains when they come to sell those assets

Dividend changes

The new dividend allowance introduced from April 2016 will see the first £5,000 of dividend income exempt from tax. The changes also see new rates of tax for dividends in excess of the allowance as well as an end to the notional 10% tax credit (see previous table - personal allowance).

This change should see a transfer of taxable assets between couples to maximise these allowances. Where previously assets may have been held by the lower tax-payer, this change should now see sufficient funds transferred up to the £5,000 allowance into the name of the higher tax payer.

It is important to note that the full amount of dividend received, even if covered by the £5,000 allowance, will still count towards total income when determining income and CGT rates, as well as entitlement to the personal allowance.

These changes also make a compelling argument for building up a collective portfolio where income and gains can be managed within the respective allowances by keeping dividend income to below £5,000 pa, and realising capital gains within the annual CGT exemption (£11,100 for 2015/16).  Any reallocation of assets must fall within the scope and objective of the portfolio and meet the appropriate risk profile of the client.


It is business as usual for pension savings as the Chancellor confirmed in the Budget that there will be no imminent changes to pension tax relief. Neither are there any plans for the Lifetime Allowance (LTA) to be reduced from its current level of £1million.

Up to 25% of a pension fund can generally be taken as a tax free lump sum, with any remainder drawn as a taxable income.

In retirement, defined contribution benefits can be provided in a number of ways:

  • An annuity offers a guaranteed taxable income for life.
  • An ‘Uncrystallised Funds Pension Lump Sum’ (UFPLS) can be paid from an undrawn pension fund.  This is a lump sum where 25% is generally tax-free and the balance is taxed at the member’s marginal rate of tax. This leaves any undrawn funds invested.
  • Alternatively, ‘Flexi-Access Drawdown’ (FAD) provides a tax-free lump sum of generally up to 25%, with the residual fund designated to provide an income now or in the future, either regularly, on an ad hoc basis or possibly not at all.  Alternatively, the residual fund can be used to purchase an annuity.

Each option has benefits and drawbacks and can be used constructively for tax planning.  For example, an annuity might use up the personal annual allowance, as might the taxable element of a UFPLS payment.  Similarly, the taxable element of FAD could be used in this way or no income might be drawn with the tax free lump sum drawn in stages to subsidies income tax efficiently.

It is important to know that where benefits are drawn for the first time from either by UFPLS or FAD, future contributions to pensions are restricted to £10,000 under the Money Purchase Annual Allowance (MPAA). 

Taking out a pension in a spouse’s name up to the annual limit of £3,600 gross for non-earners has the benefit of receiving tax relief at 20% on the contribution

The structure and withdrawal method of pensions can provide efficient income (as well as legacy planning), especially where phased in over time.  

Investment Bonds

Investment Bonds are single premium life assurance arrangements offered by insurance companies primarily designed for investment but with an insurance element in order to benefit from special tax treatment. Onshore investment bonds are deemed to satisfy ongoing basic rate tax on surrender and the policy holder is only required to satisfy the difference between basic and higher rate tax. Offshore investment bonds allow the underlying investments to ‘roll up’ any growth without any immediate liability to tax, enabling the investor to choose when tax is paid.

Other benefits of investment bond wrappers are the ability to take cumulative tax deferred withdrawals of up to 5% of the initial investment and the ability to assign, in full or in part, the bond to another individual (e.g. one’s children), with the withdrawals then becoming subject to the new owners rate of tax which might be lower than for the original policyholder.  In addition, investment bonds provide the ability to switch funds within a portfolio without incurring a capital gains tax charge, a useful feature where this may have already been utilised elsewhere. Any growth which is eventually realised would be subject to income tax.

Therefore these potentially allow a policyholder to grow their funds tax efficiently and draw a regular stream of income with no immediate tax charge. The timing of any final tax charge can be controlled and even passed to other generations for lifetime tax efficiency and estate planning.


The following is an example of a retired couple who have built up various tax efficient ‘pots’ during their working lifetime and have recently taken advice as to how best to structure their income to meet their expenditure need of £70,000 per annum. Over time they have accumulated pension assets of £480,000 and non pension assets of £933,334. By drawing these ‘pots’ in an efficient manner, they are able to take a sustainable income to meet their needs, without paying any tax. Their £70,000 of income equates to earned gross income of approximately £99,000 and therefore through effective tax planning, reduces the withdrawal on their investments.

  • State pension and pension income taxable but within Personal Allowance
  • Pension based on phasing 25% tax-free cash. £5,000 tax-free cash, £3,000 taxable income. Minimal withdrawals to maximise legacy planning
  • Spouse’s pension taken as uncrystallised Fund Pension Lump Sum (UFPLS) over 20-year term. 25% tax free, remainder taxable
  • Portfolio income within £5,000 dividend allowance, capital within CGT allowance
  • First £1,000 of savings income is tax free for basic rate taxpayer


The present range of allowances, exemptions and tax efficient investments is complex but provides great opportunities to optimise lifetime tax planning.  Furthermore, balancing the use of these various options can help to manage the risk of future changes in legislation; if one area of planning falls out of favour.

Maximising the benefits of these options extends beyond the individual, for example, a husband and wife should ensure that their assets are appropriately balanced and that allowances are structures and properly used.  

Find out more about Rathbones financial planning services.

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