Susan and Paul are at the peak of their career and earnings potential. Their income is now significantly in excess of their expenditure. They now have greater financial freedom, with their children having completed their education and left home.
They are focused on saving as much as they can afford for the future and paying off their mortgage in preparation for retirement. They are also evaluating how much income they will require in retirement to achieve their desired standard of living.
Paul and Susan should find a balance between reducing their mortgage and investing. They should review their mortgage to ensure they have the most appropriate arrangement for them and ensure that while there is a need to pay off the mortgage, they do not incur penalties through paying off more than is allowable (typically 10% per year).
With interest rates currently very low, there is a balance to be struck between the psychological desire to reduce debt and the likelihood of better returns from investing in tax efficient savings vehicles such as pensions and ISAs.
Paul and Susan should begin to consider what they wish their lives to look like in retirement and what the cost of this might be. It will then be possible to target the level of capital savings they will need to make in order for this to be achievable and sustainable. Cashflow modelling can help to project the amount they need to save annually and the level of investment return they need to achieve.
They should start to consider various 'pots' of capital which can be accessed across the short, medium and long-term and the tax efficiencies of these, both in the present day and also in retirement. Ensuring their assets are structured and invested in a way which utilises their respective tax allowances is vital and will make it easier to draw income from their assets upon retirement in a tax efficient manner. This will enhance the net return on their hard earned savings.
The need to retain sufficient cash on deposit to allow for accidents, emergencies and unforeseen expenditure is of paramount importance.
There are then many issues to be considered when structuring their assets, including the decisions relating to ‘secure’ and ‘flexible’ pension options, the use of ISAs, General Investment Accounts, Onshore and Offshore Bonds and, for any surplus monies, possible investments into higher risk Enterprise Investment Schemes (EIS) and Venture Capital Trusts (VCTs).
Both Paul and Susan should consider what scope they have to make pension contributions within their respective annual allowance and whether they have any unused annual allowances from previous tax years which could be carried forward. As Susan is an additional rate taxpayer, she will benefit from tax relief on pension contributions at 45% (to the extent that she is an additional rate taxpayer) whereas, as a basic rate taxpayer, Paul will benefit from relief at 20%. Therefore, pension contributions should be prioritised for Susan. An annual contribution for Susan into a pension of £10,000 results in a net cost to her of £5,500 after the tax relief, representing an immediate return of 81% on the net contribution.
In terms of savings, the first step should be to build a portfolio of ISAs due to the tax efficient growth and income they can provide. Importantly, ISAs may be accessed at any age and any amount be drawn free of tax. ISA portfolios can provide a tax exempt source of income in retirement, in addition to access to capital.
The following annual allowances are also available to each in order to generate tax efficient growth:
It is important to ensure that the assets owned are held within suitable tax structures in order to best achieve their objectives. However, the planning opportunities these allowances provide must be considered in tandem with their tolerance for investment risk and capacity for loss. As a consequence, it is important to ensure that whichever 'tax structure' the assets are held in, they are invested appropriately to their circumstances and in a complementary manner to each other.
We advised Paul and Susan on both the strategy and structure of their financial planning, seeking to use their surplus income to their best advantage. Their investment objective was to target capital growth that will then help provide retirement funds from which future income can be generated in a tax efficient manner once they cease work.
They now have a clear focus on their ‘retirement plan’ and are comfortable that they have implemented a sensible planning strategy that will support them in meeting their stated objectives. This plan is sufficiently flexible to adapt to their changing circumstances and priorities.
Stage 1: Setting a foundation
Stage 2: Building a career and raising a family
Stage 3: Career peak and accumulating wealth
Stage 4: Focusing on retirement
Stage 5: Enjoying retirement and passing on wealth
Stage 6: Later life and legacy
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