Paying Dividends

If you don’t invest in a Stocks and Shares ISA with us currently, you are free to close this browser window. Go read something else. Nothing that follows is applicable to you. However if you own an ISA and you are still reading this, prepare to frown and curse.

When is a tax not a tax?

When a share is sold the money received has to go somewhere. For an ISA account, It remains as bank cash within the ISA. When we are ready to re-deploy that cash into another share the cash balance reduces as the share is purchased. This is a continual process. In the meantime interest is earned on the cash currently at a healthy 3.75%.

We have all been sold the concept of an ISA being free of dividend tax, capital gains tax and tax on our earned interest. In fact “Tax-Free!” is the phrase we are used to and read everywhere. Well not any longer. From April 2027 the interest received on the cash will be subject to a charge – not a tax, because ISAs are still tax-free aren’t they? Always have been always will be. The charge looks like a 22% interest tax being levied – but it’s a total coincidence that the tax on interest is also set at 22% for a basic rate tax-payer. Thankfully the charge does not climb to 42% for higher rate tax-payers, like tax on interest earned does. Our interest will be stolen taken at source to avoid pesky tax returns for everybody plus the government gets its greasy mitts on those ill-gotten gains immediately.

I think the cabinet reckons what we don’t see, we won’t miss. But those in the corridors of power are wrong. We never forget.

Houston? We Have A Problem

We use cash as a balancer across all portfolios. You cannot have a cautious or balanced attitude to investment risk and still invest 100% in equities. You need some safe stuff too. Currently nothing else is anything like as safe as good old cash giving a risk free return of daily interest.

In times of stress, fixed interest investments have been falling along with the shares. Fixed interest investments, according to modern portfolio theory and the idea of safety in diversification in particular, are supposed to be a balance and not fall when there is an equity shock. Obviously those investments, mainly Government Gilts were not listening when they were given their job description. In good times they don’t grow very much so act as a headwind to performance. In stressful times they have been plummeting instead of holding up. We have not invested our portfolios in fixed interest investments since 2012 and their omission have been to our gain.

Commercial Property is a losing proposition too, with several full on crashes over the last couple of decades. Hence the high amount of cash we have been holding of late to balance our share holdings and keep all clients within their agreed levels of maximum investment risk.

Now we can get political about this, say some “hurty words” against the politics of envy employed by our former Rachel from Accounts Chancellor of the Exchequer or we can take the legislation as final and see what we can do to try to mitigate the effect. I’m sure our current Chancellor John Healey, will not reverse this, rushed through final days in power, tax grab. He looks like a nice chap, but he understands this Government needs the folding.

Action Plan

Our assessment was that nobody likes paying tax a charge on their ISA interest. Where could individuals possibly turn to, if they wanted to invest their ISA cash and avoid that new charge? Something lower risk that still gave an income? Gold is out of the question as it doesn’t pay anything. It’s bought, it’s sold. No income in the intervening period. We don’t earn gold filings.

After some thought we deduced that some of the cash held in the UK’s £500 billion of stocks and shares ISAs would gravitate to UK equities that give dividends in excess of the current bank cash rate. Old established companies that generate cash and pay it out. Sure, their share price will fluctuate but should still rise over time, volatility will increase short term but the dividends will remain tax free in an ISA. Plus the shares could grow over time.

At the moment that guess looks correct, as long established UK high dividend players are catching higher bids right now as cash is directed towards them out of cash held in Stocks and Shares ISAs. Our UK dividend additions are all looking healthy since we chose them. Nat West, Rio Tinto, L&G all up already in a month by more than the net interest earned over a year on the cash we spent.

Snatching Victory From The Jaws Of Defeat

In hindsight Rachel from Accounts has done us a favour. It won’t last forever, but it should help mitigate the tax charge we are going to suffer in ISAs in the years ahead. The only thing certain, is change itself. We will hopefully continue to rise above the base emotion of anger and look to create opportunity from whatever is thrown at us. As Charlie would say

When life gives you lemons, make lemonade

What’s Next?

Unfortunately neither Charlie or I are King Canute, we cannot stop the ISA tax charge tide, and we must remember that our primary role is creating growth and income before we consider taxation. We must never let “the tax tail wag the investment dog”, but we will continue to monitor legislative changes and try to turn them to our advantage.