Eyes on a foreign fortune

PEP-able funds Alison Eadie on the perks and pitfalls facing people with a taste for an overseas portfolio
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The Independent Online
THE ORIGINAL concept behind Personal Equity Plans was to extend share ownership of British companies, but rules have been relaxed to the point that it is possible to build up a strong overseas PEP portfolio and even have a PEP with no UK content. Investors are now free to invest the full £6,000 a year general allowance in shares of companies in the European Union. Those wanting to go further afield can invest in qualifying Peps that have at least half of their investments quoted on EU stock exchanges.

Unit and investment trusts with more than half their investments outside the EU are deemed non-qualifying, but investors may put £l,500 a year of their PEP allowance into them. The rest must go into qualifying funds with the same manager.

The dangers of roaming the globe too freely, however, have recently hit home with PEP managers. After long negotiations with the Inland Revenue, some managers have agreed to pay capital gains tax for the tax year 1993/94 on investments they thought were tax free. The Revenue says the issue is not yet cut and dried.

The misunderstanding arose over emerging markets. PEP managers were investing accord-ing to a list of approved securities markets from the regulating Securities and Investments Board. The list included Mexico, Malaysia, South Korea and Thailand, but the Revenue's list of recognised overseas stock exchanges excluded these four markets. The Revenue added them last October. Mexico, in particular, attracted large sums of foreign investment that year.

The Revenue has levied tax on unrealised capital gains, according to calculations on the number of unit holders or shareholders, their average investment and average gain or loss.

Both AUTIF (Association of Unit Trusts and Investment Funds) and AITC (Association of Investment Trust Companies) have settled with the Revenue. Philip Warland, director general of AUTIF, described the settlement as sensible and said only fund managers had to pay. "The PEP allowance of individual investors was unaffected, even though people invested in funds that were technically not PEP-able."

In future, the Revenue will add exchanges to its list if they apply for recognition and provided they have sufficient liquidity and proper regulation.

For the moment, however, emerging markets such as Brazil, Argentina, Chile, China, India, Pakistan, Taiwan, Israel and the Central European countries are not on the Revenue's list. This means that any PEP-able emerging markets trust must keep less than 50 per cent of its assets in these markets and more than 50 per cent in "recognised" markets.

Emerging markets trusts are also non-qualifying PEPs, so investors can only put £1,500 a year into them.

The moral of the tale is avoid anything that strays too far from the straight and narrow. Chase de Vere, the independent adviser, warns that the consequences of a PEP being disallowed because it strayed too far from recognised markets could be substantial. "The investor may lose his entitlement to a PEP for the whole tax year," he said.

It is possible to gain quite a wide international exposure and stay comfortably within PEP rules. Fidelity's MoneyBuilder PEP is a fund of funds intended for first-time PEP buyers. It aims for long-term capital growth. More than half its invest-ments are in the UK and Europe, with the rest spread between South East Asia, Japan, the US and other world stock markets.

Guinness Flight's Global Privatisation PEP has 50 per cent of its assets in mainland Europe and the rest spread between the UK, Far East, Australasia and emerging markets. Several of the largest and oldest investment trusts fail the 50 per cent EU rule, having built their reputation on their ability to invest anywhere in the world. Rather than change their investment policy, managers have designed PEP selections to allow investors to use their full £6,000 allowance.

Foreign & Colonial Investment Trust, F&C's flagship trust launched in 1868, is one of four non-qualifying trusts in the F&C PEP. The others are Pacific, Smaller Companies and US Smaller Companies. For the top up, qualifying trusts are Euro-trust, German, Income Growth and F&C PEP, a specially designed trust mainly invested in UK blue-chip shares.

F&C's Latin American and Emerging Markets Trusts were once part of the non-qualifying offering, but were withdrawn due to the Inland Revenue dispute. No decision has been made to reinstate them.

Some overseas PEPs have performed handsomely. Chase de Vere's performance charts show that Europe did well in 1994. Morgan Grenfell's Europe Growth Trust turned £1,000 into £1,171.71, at a time when the UK stock market was falling.

Over five years, the top non-qualifying unit trust PEP was Gartmore Hong Kong, which turned £l,000 into £3,824.77.

Direct investment abroad by way of a self-select or advisory PEP is an option reoommended only for the highly sophisticated investor. The costs and the complexities of building up an adequate spread of investments are enough to convincingly deter all but the very brave.